Irish Drug Company ICON plc to Acquire Domestic PRA Health Sciences in Taxable Cash-and-Stock Deal

By Stuart E. Leblang, Michael J. Kliegman,  and Amy S. Elliott

Irish drug developer ICON plc (NASDAQ:  ICLR) (ICON)—which assisted with the COVID-19 vaccine clinical trial for Pfizer (NYSE:PFE) and BioNTech SE (Nasdaq:  BNTX)—announced February 24 that it will acquire rival contract research company PRA Health Sciences, Inc. (NASDAQ:  PRAH) (PRA) (a Delaware corporation with its headquarters in Raleigh, North Carolina) in a cash-and-stock deal.  After the transaction, PRA shareholders will own about 34 percent of the combined company (with ICON shareholders owning the remaining 66 percent).  The combined company will be headquartered in Dublin, Ireland. ¹ 

The combination will be structured as a reverse subsidiary merger with Indigo Merger Sub, Inc. (Merger Sub), a subsidiary of ICON and its U.S. subsidiary ICON US Holdings Inc. (US Holdco), merging into PRA, with PRA surviving as a wholly owned subsidiary of ICON and US Holdco. ² Both ICON and PRA shareholders must approve the deal, which is expected to close in the third quarter of 2021.

The per-share merger consideration ($80 in cash and 0.4125 shares of ICON stock) works out to about 52 percent stock and 48 percent cash. ³ Because the former shareholders of the acquired company (here, the PRA shareholders) will not be exchanging their shares for consideration that is at least 80 percent stock of the acquirer, the merger will not qualify as a tax-free reorganization. ⁴ Instead, the deal with be fully taxable.

For U.S. tax purposes, the merger is intended to be treated as a taxable purchase by ICON and US Holdco of the outstanding stock of PRA except to the extent that Internal Revenue Code (IRC) Section 304 applies.  If Section 304 applies (the Merger Agreement does not say it will definitely apply, just that it may), it could treat the cash portion of the consideration received by certain PRA shareholders as a deemed dividend. ⁵ 

Section 304 would apply if PRA shareholders (on an aggregate basis) end up holding 50 percent or more of the combined company.  Given that PRA shareholders are only expected to end up with about 34 percent of the combined company, the only way the 50 percent threshold could be breached is if there is sufficient shareholder overlap, where holders of significant amounts of pre-merger ICON stock also hold some PRA stock.  If Section 304 does apply, the cash received by any given PRA shareholder is tested under the Section 302 redemption rules for possible dividend treatment.  From the standpoint of achieving the safe harbor reduction in interest of more than 20 percent, we compare the shareholder’s post-merger percentage ownership in ICON to its pre-merger percentage interest in PRA.  This is a possible issue for a foreign investor, for which there could potentially be withholding tax of 30 percent, subject to reduction under an applicable treaty.

We have noted the possible application of Section 304 to other cash-and-stock transactions.  Tax lawyers started disclosing this risk just a few years ago and have felt compelled to do so in any case where the target company shareholders could possibly hold 50 percent or more of the acquirer, especially where institutional investors might be prone to hold positions in multiple companies within an industry.  What is unfortunate is that typically, neither the companies involved nor the Internal Revenue Service does the work necessary to determine whether the 50-percent threshold is even close to being met, and the prime brokers are not in a position to negate the application of Section 304.  Nevertheless, since the terms of the transaction strongly favor a presumption that a PRA shareholder will have a 66 percent reduction (as a group they go from owning 100 percent of PRA to owning 34 percent), we expect foreign investors should be able to demonstrate to the prime broker that no withholding is necessary.

Commenting on tax synergies expected from the deal, ICON and PRA think that the combined company will have a 14 percent blended tax rate within about four years (17 percent at close). ⁶ The most recent financial statements for PRA indicate it had an effective tax rate of 23.9 percent for 2020 and 20.5 percent for 2019. ⁷ 

While not a so-called inversion per se (the anti-inversion rules of IRC section 7874 are triggered when the U.S. company shareholders own 60 percent or more of the post-merger foreign company—well above the 34 percent in this case), a few short years ago, nearly any acquisition of a U.S. corporation by a foreign corporation with significant stock consideration raised concerns about U.S. companies migrating offshore.  Things have cooled off in that regard, probably in part due to 2017 tax law changes making such migrations less beneficial.  With likely changes in U.S. corporate taxes and given the broader political environment, we may see both a greater interest in U.S. companies moving offshore and calls for even stronger measures to prevent them from doing so.

^{[1] Press Release, ICON and PRA, ICON to acquire PRA Health Sciences, creating a world leader in Healthcare Intelligence and Clinical Research (Feb. 24, 2021) (https://www.sec.gov/Archives/edgar/data/1060955/000114036121005941/nc10020781x7_425.htm).}

^{[2] Agreement and Plan of Merger by and among ICON, US Holdings, Merger Sub and PRA dated as of Feb. 24, 2021 (Merger Agreement) (https://www.sec.gov/Archives/edgar/data/1060955/000114036121006002/nc10020781x8_ex2-1.htm).  ICON will provide the stock consideration and US Holdco the cash portion.}

^{[3] ICON closed Feb. 23, 2021 at $208.62 x 0.4125 = $86.06; $86.06 + $80 = $166.06; $86.06 / $166.06 (x 100) = 51.82%}

^{[4] IRC §368(a)(2)(E).}

^{[5] If it is treated as a dividend, there may be 30% withholding tax (or such lower rate as may be specified by an applicable income tax treaty) on the gross amount of any cash merger consideration paid to a non‐U.S. holder.}

^{[6] ICON CFO Brendan Brennan:  “It will take time to get to a lower tax rate.  The combined entity will start off with about a 17% tax rate Vincent, and overtime we think that that can probably reduce to about 14%.  Of course we work in excess of 40 different countries about the globe, in this new entity, as we do in ICON at the moment, and you’re going to be looking at all the different tax rates in all those different countries.  So it’s not just as simple as saying that we’re going to move to the Irish tax rate.  But certainly being headquartered in Ireland means that we contract out of this country, we’re a proud Irish organisation, we wear that proudly, there’s no issues with that and we’ll tell every country in the world that the company is managed from Ireland and that is the way things work.  So we do think that is an opportunity for the combined business, but we think in the longer term it’s more like a 14% tax rate, taking in the blend of all the other tax rates that we would use across the globe” (https://www.sec.gov/Archives/edgar/data/1060955/000114036121006169/nc10020781x16_425.htm).}

^{[7] PRA, Annual Report (Form 10-K), at 40 (Feb. 24, 2021) (https://www.sec.gov/ix?doc=/Archives/edgar/data/1613859/000161385921000011/prah-20201231.htm)}