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Business & Money

A spate of proposed U.S. tax rule changes soon may open a window of opportunity for certain utilities.
Fortnightly Magazine - May 2004

sellers are even moving to enhance the value of their international portfolios. This makes abundant good sense, since U.S. investor-owned utilities, even those that would like to divest fully, still have billions invested in overseas power generation, transmission, and distribution.

The key to future success, however, is not in simply waiting for the market to revive. It lies in taking the time now to carefully plan an exit-or a hold-and-enhance-strategy, or something in between. In part, this means gaining a closer understanding of the true current state of affairs, improving local operating and financial controls, and gaining a better understanding of the underlying foreign and U.S. tax and business implications of every potential decision.

This course of action requires patience as much as strategic precision. In some cases, utility owners may have to demonstrate a willingness to invest, rather than divest, to improve the value of assets and the quality of the information on which future decisions will rely. In other words, companies that hope to sell more profitably at a later date-regardless of whether the various proposed energy and tax legislative initiatives passes by mid-2004-must have the right information at their fingertips and the right structures in place if they hope to make informed strategic decisions.

Understanding the Strategic Options

Most U.S. owners of overseas assets contemplating a disposition will find the decision-making process begins with a complex question: How do we sustain a U.S. tax benefit for investments with built-in losses upon disposition, and how do we tax-efficiently repatriate the sale proceeds-if any-back into the United States? With respect to the repatriation question, HIA, Congress' pending tax repatriation bill, could provide an opportunity to help ease the way, but only for sellers who have a thorough understanding of the underlying structure of their offshore holdings, including how they are financed and reported, and the pattern of any actual or constructive distributions in recent years.

To move ahead successfully, potential sellers should first acquire, or reacquire, focus and in-depth knowledge of their investments, including an understanding of:

  • Each asset's structure and cash flow. How are assets held and financed?
  • Its tax basis and U.S. earnings and profits profile. How will these earnings be treated when repatriated to the United States?
  • Salability. Is the property attractive to potential buyers? What investments or reorganizations must be made to draw buyers?
  • The character of the property's gains/losses. Will these be treated as capital or ordinary gains or losses?
  • The source of any losses. Is it foreign or domestic? Has the basket of gains/losses been analyzed for U.S. foreign tax-credit purposes?
  • The earnings and profits position in each business and the foreign tax pools. Have foreign income taxes been paid, or losses realized, during the ownership period? Have actual or deemed distributions of earnings occurred?
  • The currency used for reporting for U.S. tax purposes. Also, to what extent will gains and losses be affected for U.S. tax purposes by the realization of foreign exchange gains or losses?

Reviewing a Hold-and-Enhance Strategy

Investors who elect to hold on to an existing international portfolio in the near