J.E. Seagram Corp. v. Commissioner

United States Tax Court
104 T.C. 75; 1995 U.S. Tax Ct. LEXIS 3; 104 T.C. No. 4 (1995)

ELI5:

Rule of Law:

Under the step transaction doctrine, a tender offer and a subsequent merger will be treated as a single integrated transaction for tax purposes if they are contractually linked as part of a single plan. The continuity of interest requirement for a tax-free reorganization is satisfied if a substantial part of the consideration from the acquirer is its own stock, regardless of whether the target's historic shareholders sold their shares for cash to an unrelated third party during the transaction.

Facts:

In mid-1981, a three-way bidding war for control of Conoco, Inc. began between Joseph E. Seagram & Sons, Inc. (JES), DuPont, and Mobil Corp.
On June 25, 1981, a JES subsidiary initiated a tender offer to purchase Conoco stock for cash, with the stated goal of gaining control of Conoco.
On July 6, 1981, DuPont and Conoco signed a formal agreement for DuPont to acquire Conoco through a two-step process: first, a tender offer for cash and DuPont stock, followed by a statutory merger of Conoco into a DuPont subsidiary.
Throughout July 1981, JES, DuPont, and Mobil all engaged in a competitive bidding process, repeatedly increasing the prices of their respective tender offers.
By early August 1981, DuPont's tender offer succeeded, having attracted a majority of Conoco's shares.
Having failed to acquire Conoco, JES tendered the 27.7 million shares of Conoco stock it had purchased for cash (at approx. $92/share) as part of DuPont's tender offer.
On August 17, 1981, JES exchanged its Conoco shares for DuPont stock at a ratio that valued its holdings at approximately $73 for every Conoco share it had purchased.
On September 30, 1981, the merger of Conoco into the DuPont subsidiary was completed, finalizing the acquisition as laid out in the July 6 agreement.

Procedural Posture:

J.E. Seagram Corp. (petitioner) claimed a short-term capital loss of $530,410,896 on its Federal income tax return for its fiscal year ended July 31, 1982.
The Commissioner of Internal Revenue (respondent) disallowed the loss and determined an income tax deficiency of $160,127,325.
Petitioner challenged the deficiency by filing a petition in the U.S. Tax Court, which is the court of first instance for this matter.
Both petitioner and respondent filed cross-motions for summary judgment, agreeing that the material facts of the case were not in dispute.

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Issue:

Is an unsuccessful tender offeror's exchange of a target corporation's stock for an acquiring corporation's stock, as part of an integrated two-step tender offer and merger plan, a non-taxable event under the reorganization provisions of the Internal Revenue Code, thereby precluding the recognition of a capital loss?

Opinions:

Majority - Nims, Judge

Yes, the exchange is a non-taxable event pursuant to a plan of reorganization, which precludes the petitioner from recognizing a capital loss. The court held that DuPont's tender offer and the subsequent merger were not independent transactions but were 'carefully integrated transactions' that together constituted a single 'plan of reorganization' under the step transaction doctrine. This conclusion was based on the fact that DuPont was contractually bound by the DuPont/Conoco agreement to complete the merger upon the successful completion of the tender offer. Furthermore, the court found that the continuity of interest doctrine was satisfied because, in the aggregate, DuPont acquired 54% of Conoco's equity using its own stock. The court rejected petitioner's argument that sales by 'historic' Conoco shareholders to third parties for cash (including to petitioner) broke continuity, reasoning that the focus should be on the nature of the aggregate consideration paid by the acquirer, not the identity of the sellers. Petitioner, by acquiring Conoco stock for cash and immediately tendering it for DuPont stock, effectively 'stepped into the shoes' of the historic shareholders for purposes of the reorganization.

Analysis:

This case significantly clarifies the application of the step transaction and continuity of interest doctrines to multi-step acquisitions of publicly traded companies. It establishes that a contractually linked tender offer and merger are treated as a single plan of reorganization. More importantly, it provides a practical framework for the continuity of interest test, focusing on the aggregate consideration from the acquirer rather than requiring an impractical tracing of 'historic' shareholders. This decision provides transactional certainty for acquirers, insulating the tax-free status of a reorganization from market activities and cash purchases by unrelated third parties like arbitrageurs or competing bidders.

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