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When companies flee US tax system, investors often don't reap big returns

(Repeating to additional subscribers)

By Kevin Drawbaugh

WASHINGTON, August 18 (Reuters) - Establishing a tax domicile abroad to avoid U.S. taxes is a hot strategy in corporate America, but many companies that have done such "inversion" deals have failed to produce above-average returns for investors, a Reuters analysis has found.

Looking back three decades at 52 completed transactions, the review showed 19 of the companies have subsequently outperformed the Standard & Poor's 500 index, while 19 have underperformed. Another 10 have been bought by rivals, three have gone out of business and one has reincorporated back in the United States.

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Among the poorest performers in the review were oilfield services and engineering firms, all from Texas. Among them was the first of these companies to invert, McDermott International (NYSE: MDR - news) Inc, which moved its tax home-base to Panama in 1983.

Drugmakers are dominating the latest wave of inversions and most of them have outperformed the benchmark index. So far in 2014, five U.S. pharmaceutical firms have agreed to redomicile to Ireland (Other OTC: IRLD - news) , Canada or the Netherlands. Deals that have not been completed were excluded from the review.

It is impossible to know how the companies might have fared in the market had they not inverted. Innumerable factors other than taxes influence a stock's performance, and no two of these deals are identical, complicating simple comparisons.

But the analysis makes one thing clear: inversions, on their own, despite largely providing the tax savings that companies seek, are no guarantee of superior returns for investors.

The deals basically involve a U.S. company initially forming or buying a foreign company. Then the U.S. company shifts its tax domicile out of the U.S. and into the foreign company's home country. The name "inversion" comes from the idea of turning the company upside down, making a smaller offshore unit the new head and the larger U.S. business the body.

Companies that do these deals typically promise shareholders will benefit. But aside from stock price underperformance by many, inversions can also impose substantial up-front tax costs. When a deal occurs, investors must recognize any taxable capital gains on their stockholdings. These costs are not taken into account in the study as they differ for each shareholder and don't apply in some cases.

"For some companies, these inversions are really smart business moves. For others, they're less smart ... You don't always know if it's going to work," said James Hines, professor of law and economics at the University of Michigan and one of a handful of academics who have closely studied these deals.

TAXES AND TEXAS

Corporations that invert say they are only seeking to pay the lowest tax rate they can get, noting this is what shareholders would expect them to do.

Inversion was pioneered as a strategy by oilfield companies that reincorporated chiefly in the Cayman Islands, Bermuda and Britain. Most have lagged the S&P500 since their inversions were completed: McDermott by 85 percent; Rowan Cos Plc by 35 percent; Transocean Ltd (NYSE: RIG - news) by 18 percent; among others.

These oilfield stocks also largely underperformed narrower Thomson Reuters and Dow Jones oil and gas equipment and services sector indexes, looking as far back as index data allows.

McDermott did not reply to questions sent to the company. Transocean did not respond to requests for comment.

A Rowan spokeswoman referred questions to the company web site. It said the company's 2012 UK redomiciling "was designed to enhance shareholder value," while putting Rowan closer to customers and North Sea operations and enabling it to stay competitive "with the effective tax rates of its global competitors, most of which are domiciled outside the U.S."

Beyond oilfield services, the inversion strategy has been used by a half-dozen U.S. insurance firms, with half of them outperforming and the rest either acquired or out of business.

White Mountains Insurance Group Ltd, managed from Hanover, New Hampshire, has outpaced the S&P500 by 248 percent since reorganizing in 1999 as a Bermuda corporation, for example. A spokesman for the company said it had no comment.

INTENSE COMPETITION

The analysis, using Reuters data and analytics, measured simple share price performance against the S&P 500 index using two benchmarks - the date when each company completed its inversion deal, and the date when each deal was announced.

With only four exceptions, the inverted companies that were still in business since doing their deals either uniformly underperformed or outperformed on both benchmarks.

For instance, U.S. engineering and construction group Foster Wheeler AG announced in November 2000 - when its stock was worth about $45 per share - that it was inverting to Bermuda. The deal, a statement said, was "expected to benefit Foster Wheeler (NasdaqGS: FWLT - news) and its stockholders for several reasons."

Since the announcement, the company's stock has lagged the S&P 500 by 50 percent; since the deal was concluded in May 2001, it has trailed the index by 83 percent. Foster Wheeler agreed in January 2014 to be acquired by UK rival Amec Plc (Other OTC: AMCBF - news) for about $32.69 per share in Amec stock and cash at the time. The deal is expected to close in the fourth quarter.

Foster Wheeler spokesman Scott Lamb said the company dealt with weak markets, several problematic projects and a major debt restructuring after it inverted to Bermuda. It recovered and so did its stock price, but the 2008 economic downturn, he said, brought "an extended period of moderate demand and intense competitive pressure. These conditions have adversely affected the performance of all of the companies in this sector."

Also, in the past decade, he said, the company's revenue and employment base have largely shifted out of North America.

"HERD MENTALITY"

Concern is growing in Washington about inversions. President Barack Obama has criticized a "herd mentality" by companies seeking deals to escape U.S. corporate taxes.

Of the 52 inversions and similar redomiciling deals done since 1983, 22 have occurred since 2008, with 10 more being finalized and many more said to be in the works.

Following recent deals by major companies such as Medtronic Inc, bankers and analysts have said that another burst of deals is waiting to be unveiled in September.

Congressional action this year is unlikely with Republicans so far opposing Democrats' proposals, analysts said, though the Obama administration has been weighing executive actions.

For instance, the White House may announce tighter restrictions on federal government contracting with inverted companies, said Chris Krueger, an analyst at Guggenheim Securities in Washington in a research note last week.

Inversions have a firm legal basis. The government has been writing rules on them for 30 years. But they are complex and risky and some major proposed deals have recently unraveled.

On August 6, for example, after months of internal debate and public criticism from politicians, U.S. retailer Walgreen Co (NYSE: WAG - news) said it would not reincorporate in Europe. It was considering using its purchase of Europe's Alliance Boots Holdings for such a maneuver.

Drugmaker Pfizer Inc and advertising firm Omnicom Group Inc, U.S. leaders in their indus