Monday, February 29, 2016

Strange Bedfellows

“It's like corporate cocaine.  They just can't get enough"

The saying goes that politics make strange bedfellows.  Given that politicians write our tax laws it is no coincidence then that tax rules can help forge some unique relationships.  Parties and industries that have nothing in common get linked when creative minds start to dabble in the possibilities the tax canvas inspires.

Many provisions in the Tax Code (Code) are in place to provide some type of incentive or punishment to support or discourage behaviors depending on the economic objectives of the politicians that are looking out for the needs of their electorates.  Not surprisingly the needs of the natural resources industry are abundantly addressed in numerous sections of the Code.

Code Section 29 (since renumbered) provides a federal tax credit for entities that produce fuel from "nonconventional" sources.  The Section 29 Credit  (Credit) arose in large part to help reduce the US economy's dependence on foreign fuel.  The Credit offered tax savings as an offset against the higher costs of developing fuels from sources such as shale, tight sands and biomass.  Unlike some tax credits offered by the Code, the Credit was a "use it or lose it" credit.  Taxpayers who could not use all or some of the Credit generated during a tax year could not carry the Credit back or forward to offset prior or future year tax obligations.  Enterprising tax practitioners thus looked to find ways to unite Credit generators that did not have sufficient tax liability to use the Credit with taxpayers looking to reduce their tax liabilities.

Robert Arnoldson was one such enterprising person.  A Graduate of Michigan, Robert joined Andersen two years before I did.  He was not flashy or an attention grabber, he was just smart.  Scary smart.  Robert, even as a mid twenties young dude, had a receding hairline and a big forehead.  Some of the staff people called him Mr. Brain: A nickname born from his intelligence and manifested by that big forehead.

Unassumingly Robert rose through the ranks and in the mid 1990s achieved the status of National Partner.  The best way to describe National Partner is as a kind of Purgatory stepping- stone on the way to equity partner.  The Firm instituted this rung in the career path around 1990 to delay the number of people that could feed from the equity partner trough. 

Truth be told Robert deserved to be an equity partner long before he finally achieved that status.  He was a great tax technician - loved by his clients, respected by the staff, and just kind of a normal guy- the highest compliment a man can get in the high ego world of Big Firms.  Many Andersen people knew quite a bit about a small section of the tax world.  Robert knew an awful lot about a wide swath of tax intrigue: Corporations, partnerships, reorgs, international tax,  - and across multiple industries - natural resources, cable television, real estate and utilities. 

In the mid 1990's Robert designed a scheme to monetize the Credit (Vehicle).  The nuances of the Vehicle are probably only entertaining to a tax geek - but at a high level:

  • A party that could not use the Credit (Seller) was matched with a party that could (Buyer)
  • The Seller sold assets generating the Credit to the Buyer
  • The Buyer paid for the assets with the revenue generated by such assets, but maintained enough of an economic interest in the property to justify being an owner entitled to take the Credit.
  • Andersen would seek a Letter Ruling (LTR) from the Internal Revenue Service (IRS) to confirm the tax treatment of the transaction to ensure the parties received the tax treatment they sought given the creative and risky nature of the Vehicle structure.

It took a little time to find just the right audience for the Vehicle.  There were certainly plenty of sellers that were looking to monetize Credits they could not use.  The hard part of the equation was finding buyers that were willing to step out into this risk-infested endeavor and start feeding on the Credits.

I personally worked with Robert to pitch the Credit to numerous would-be buyers.  On one occasion I ventured to the corporate headquarters of a prominent homebuilder (HomeCo) to explain to the CEO and the COO why they needed the Credit and how Andersen could hook them up with a seller and complete the steps necessary to put the Credit in their hands.  Barry Nimmons, a tax attorney for a firm I worked with on many occasions, accompanied me to HomeCo.  The plan called for Andersen to compile the tax analysis and obtain the LTR from the IRS while Barry's firm would compile the legal documents needed to evidence these complex transactions.

Barry and I arrived at HomeCo and were ushered into an enormous conference room to wait for the CEO and COO to emerge from a meeting.  The conference room contained the most enormous conference table I had ever seen. There were dozens of chairs around the table and every chair seemed to be pinned under the enormous weight of the granite table top.  I picked a chair and started twirling the handle to lower the armrests so that I could free it from the table.  Barry took a different tack and was involved in a tug of war with the table over a chair that he was trying to yank clean by tugging on the chair's back.

Just as the CEO and the COO were walking into the conference room Barry won the wrestling match.  His chair came flying out from beneath the table.  The momentum sent Barry crashing into a conference room wall. The HomeCo CEO and COO nearly burst trying to stifle their laughter.  It was a Keystone Cops kind of moment.  Ultimately Barry and I could not convince them to sign up for the Vehicle, but we did leave them more informed and in better cheer.

After several unsuccessful attempts at peddling the Vehicle Robert struck the mother lode.  A high-ranking tax department member at one of the largest investment management firms in the world wanted to know more. Her company had tons of taxable income and was looking for creative avenues to lessen the burden.  She became the first customer for the Vehicle.
Robert assembled a swat team that generated the "deliverables" for the vehicle:

1) A mathematical analysis that identified the present value of the revenue stream from the Credit assets that were being sold to the buyer.
2) The standard set of transaction documents that were prepared by the law firm that we partnered with on the Vehicle.
3) A template for the LTR that Andersen would prepare and submit to the IRS National office to confirm the tax treatment of the sale of a Vehicle.

The first time Robert's team prepared the Vehicle Credit package it took considerable time to refine the components and get them just right.  We had approximately $75,000 in fees in the endeavor (as measured by hourly billing rates).  Robert billed his client the full amount and she happily paid the fee that was small relative to the benefit her company received.  Better yet, she wanted to know when we could find the next deal and she could buy more Credits through a new Vehicle.

Robert had uncovered that rare gem in the professional services world:  A high value intellectual product that he could resell again and again.  The Vehicle was like a piece of software code.  It took a lot of energy, resources, and creativity to create, but once developed Robert could monetize it again and again to happy clients at a multiple of the fees we actually incurred.  At Andersen we called this value billing - that Nirvana situation where customers paid us more than our fees because of the value they placed on the product we delivered.

For several years the pipeline for these transactions was steady.  Once a company did one Vehicle deal it wanted a second and a third.  Robert said, "It's like corporate cocaine.  They just can't get enough.  The first deal leads to the second and then they are hooked."  Robert's first premier client moved to one of the largest financial transaction clearing firms in the world and started the cycle all over with that company.

The Vehicle was an amazing revenue generator for the Denver office and for other Andersen offices that replicated the technique.  One might think Robert's role in creating and marketing the Vehicle would launch his rocket ship to equity partner, but it did not.  

Robert and I were waiting at an airport gate for a trip to Washington D.C. to discuss a nuance of one of the Vehicle transactions with the IRS National Office.  Such was Robert's command and expertise of the subject matter that the IRS asked his guidance as to how to draft the LTR language on a particularly complex Vehicle.  

"What's bugging you?", I asked.  Robert was a pretty low-key dude, but he was clearly down in the mud.

"I don't know.  Just wonder what it is worth sometimes.  We put in all this work and where do we get?  I don't need all the glory but it would be nice to be recognized for what I am doing."

Robert was not a complainer, but year after year of being the best mind in the division and not getting to the ultimate price was zapping what was left of his morale.  He told me he had discussed it with his wife and they would give it one more year.  If he were not on the equity partner list next year he would leave Andersen.  With that he switched the topic: "We are only going to be gone for one night, why are you carrying that large suit bag?"

I had one of those long vertical suit bags that folds over on itself and supposedly keeps a suit from getting too wrinkled.  Robert carried only a small gym bag.  He opened it and pulled out his shirt and suit for the next day's meeting.  They were tightly folded and rolled in a dress wear bundle.

"I read about this in a magazine.  Best idea yet for keeping a suit ready without an iron."  Robert, always the innovator.

I left Andersen shortly after Robert and I had that meeting with the IRS.  Robert did eventually make equity partner, but I think he always simmered about how much time it took.  Shortly before the Firm imploded in Late 2001 and early 2002 Robert received an offer to be the top tax person at a corporate empire headed by one of the country's wealthiest men and best deal makers.  Robert took the job and never looked back.  He has worked on many unique and complex transactions since then, using all the tools in his vast tax and business bag.  Better still, Robert has received the recognition and financial rewards (and then some) befitting a man of his talents.

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