This is the first installment of a three-part series in which Andrew Lindquist, a partner from GoGlobal, and Yvette Chan, Managing Director and Asia M&A Tax Practice Leader from Alvarez & Marsal (A&M) will discuss the ‘Great Carve-Out Comeback’ of 2023 and implications for talent management.
Corporate divestiture activity lagged in 2022, according to recent data published by Dealogic, likely due to slow economic growth. However, current market conditions are now paving the way for the ‘Great Carve-Out Comeback’ in 2023.
With a potential global economic recession on the horizon, financial health assessments will be a topic of daily discussion in boardrooms around the world. It is likely some companies, as cash flow increasingly becomes a priority, will look to cash out on non-core business lines.
For companies with healthy balance sheets, lower valuations may make 2023 a prime time to acquire new business.
In this blog post – the first of a three-part series – Andrew Lindquist, a partner from GoGlobal, and Yvette Chan, Managing Director and Asia M&A Tax Practice Leader from Alvarez & Marsal (A&M), discuss the unique challenges of cross-border merger and acquisition (M&A) carve-out deals from a tax and HR perspective.
Why is talent management important during an M&A transaction?
Andrew Lindquist, Partner, GoGlobal: M&A transactions, such as corporate carve-outs, suffer a precarious failure rate of up to 90%, according to research published by Harvard Business Review.
Why are prospects for success so grim for some companies? Up to 75% of acquired employees leave within the first three years, according to data published by Gallup.
Simply put, talent management can either make or break any deal. Once a deal goes through, the pressure is on all around – from integrating technology to compliance, communications, culture shifts and customer engagement.
Talent is at the helm of any transaction, especially in an asset deal, so extra attention needs to be put into HR processes. The right people need to stay in place to make it all happen and ensure a smooth transition.
Yvette Chan, Managing Director and Asia M&A Tax Practice Leader, A&M: An increasing number of M&A transactions are focusing not only on the business but also on the talent that fuels the companies’ performance and growth.
However, this talent may be uncertain about the future. Acquired workers often have reservations about how the M&A transaction will impact their remuneration, social securities, and tax liabilities. This uncertainty can prompt talent to look for work elsewhere.
Business continuity is important to the success of an M&A transaction. Retaining highly skilled employees can ensure minimal disruption to the business. For example, talent management is important for ensuring that the tax compliance and historical tax risks of the group are properly handled post-M&A transaction.
Further, certain tax incentives, such as lower tax rates or additional research and development (R&D) expense deduction, may require a minimum number of R&D professionals to be retained in the entity. Losing such R&D talent may result in the loss of the tax incentives the entity previously enjoyed.
What are the unique talent management challenges in a carve-out transaction?
Andrew: Any type of corporate transaction is bound to be a complex process, from conducting due diligence all the way through to integration.
However, in terms of talent management, the path toward a global carve-out deal can be particularly bumpy and especially arduous. That’s because carve-outs often leave behind “orphaned employees” that come along with the carved-out entity.
On one hand, these workers are accounted for in the valuation and included as part of the acquired asset. On the other hand, the buyer often has a tight schedule to meet and may not have the required time to set up a legal entity in the country where the carve-out employees reside.
The workforce is then left without an in-country legal business entity to employ them. They have no legal home – so they become “orphaned.”
What are the tax and accounting challenges in a cross-border carve-out deal?
Yvette: Tax implications play a significant role in a carve-out transaction, especially in a multijurisdiction project.
Different transaction options (e.g., equity deal, asset deal or a hybrid structure) will result in different tax treatments. If not planned properly in advance, the wrong structure may result in higher tax burdens for the seller or the carved-out business.
For example, an asset transfer in China is subject to various transaction taxes, including corporate income tax, value-added tax (VAT), stamp duty as well as land appreciation tax, and deed tax if real estate is involved. On the other hand, tax-exempt or tax deferral treatment can be enjoyed under certain conditions if properly structured.
In a share deal, there will be the inheritance of carry-forward losses and tax profiles, such as preferential treatment and incentives. However, there will be a need to reapply for these features, as well as any other important licenses required for operating the business. The process may be difficult, costly, and time-consuming.
Before a carve-out deal is signed, considerations for the transfer of employees are often undermined or even forgotten. However, the transfer process can also give rise to additional tax costs for the carved-out business, which can indirectly change the sale price.
An alignment of the remuneration package of the employees of the carved-out business with the existing business may also give rise to an additional tax burden for the buyer.
Finally, additional tax clearance procedures may be required for foreign employees, such as the new Long-Term Visit Pass (LTVP) in Singapore.
Special attention must also be given to orphaned employees. A potential increase in personnel costs or severance payments should be carefully considered and accounted for.
Watch for part 2 of this series where Andrew and Yvette will further discuss the dilemma of ‘orphaned employees.’