Pfizer's Little Tax Problem: $2B Bill Looms in 2011

(MoneyWatch)  Pfizer (PFE) has a tax problem coming down the pike. Its tax rate will jump from the 22 percent level it was paying before the Wyeth acquisition, to about 30 percent in 2012, the company told analysts.

Last year, Pfizer made a provision for $2.1 billion in taxes on $10.8 billion in earnings before tax. After adjustments, the income tax line in its 2009 income statement was $5.9 billion. In future years, when the rate hits 30 percent, Pfizer's tax bill could rise to as much as $7.9 billion, according to one analyst -- a $2 billion increase.

Analysts clearly didn't like that news -- the more companies pay in tax, the less cash they have to return to investors in stock buybacks or dividends -- and so they grilled Pfizer CFO Frank D'Amelio about it:

David Risinger - Morgan Stanley: With respect to the tax rate, could you just explain why in 2012 Pfizer is going to have a materially higher tax rate than all of its U.S.-based peers? You are projecting 30%. Your U.S. peers are in the low-to-mid 20s. It seems like that is too conservative.

Frank D'Amelio: Our tax rate this year on an adjusted income basis was 29.5%. We had guided to approximately 30% and that's really being driven by the cash that we are repatriating from overseas, as a result of the financing that we put in place for the Wyeth acquisition. So, I view that as very similar to what we have been doing. The industry average is lower and we were lower than the industry. Last year, we were 22%. And really it is what we are doing as a result of the Wyeth acquisition that has caused the rate to increase.

We'll get back to that business about tax going up because of the Wyeth acquisition later. Tony Butler of Barclays Capital wanted to know if Pfizer could do anything about the tax rate:

Tony Butler - Barclays Capital: Frank, back to David Risinger's question on tax rate, if I may. At what point in time is it most important to you to actually have a permanent tax reduction in the tax rate vis-? -vis not needing to pull money from abroad, and therefore perhaps having paid down the existing debt versus some alternative use of that cash?

Frank D'Amelio: So, Tony, on the tax rate what I would say is this. I gave a target for 2012. We said approximately 30%. Please understand that with that 30% approximation, as the target, I believe, we still have financial flexibility to do the things, the things we need to do to deploy capital in a way that maximizes total long-term shareholder return. So, I don't view that tax rate as some big handcuff that doesn't allow us to have the financial flexibility that we need to have. So, that is how I would answer the question.

This notion that Pfizer's higher tax rate is somehow Wyeth's fault is an interesting one, and not everyone is buying it. In a recent note to investors, Tim Anderson of Sanford Bernstein advanced a different theory: The tax rate is increasing because as Pfizer's patents expire on its best selling drugs, the foreign factories that make them will contribute less revenue to the overall business. That has a consequence because companies can sometimes avoid tax by basing operations in foreign countries. He wrote:

Investors may not fully appreciate what is very likely the core driver of this phenomenon: that PFE will be losing patent protection on a host of major products that are manufactured in tax-advantaged territories like Puerto Rico, Ireland, and other regions. When the profits from these products go away (and especially when this happens in the US market) there is a negative mix shift that occurs that drives up the blended tax rate.

This suggests that higher taxes at Pfizer could be a structural state of affairs that Pfizer can't control, at least in the short term. Anderson estimates that Pfizer's tax bill will hit $7.9 billion in 2011.

• Related:
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• Pfizer Layoffs: Whose Jobs Are Safe, and Whose Aren't?
• Pfizer Won't Share Wyeth's Q3 Numbers; Layoff Announcements Due This Week
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