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Change In Federal Procurement Rules Causes Company To Dump Subsidiary

The large engineering firm McDermott International Inc. (MDR) announced that it is separating its nuclear power plant construction and operations arm, Babcock & Wilcox (B&W), from itself and establishing a new company. This is being done due to a change in Federal procurement rules and U.S. tax laws. As an "inverted company" due to this new rule McDermott cannot bid on Federal contracts. Since B&W primarily does work related to the government this means by separating it into a unconnected company they avoid the issue.

An inverted company means that they are incorporated at an overseas location but still maintain a headquarters and large operations in the United States. McDermott is incorporated in Panama. B&W was acquired by the company in the late Seventies and has a history of making large boilers for ships and power plants. Their work with the Federal Government has been growing over the last few years.

The way the spin off plan is set to work is that after it is done B&W will have revenue of about $3 billion. A shareholder of McDermott today will end up with an equal amount of shares in both companies. The advantage of being an inverted company allows taxes to be discretely paid to the country where the revenue was earned. In the last year the U.S. changed its tax laws so that an inverted company is still treated like a U.S. one. This means that all of its revenue no matter where earned is taxed by the U.S. Government.

By spinning off the B&W part of the company McDermott is minimizing their exposure to U.S. taxes and double taxation in general. McDermott is getting rid of that part of their company in order so that it can continue getting contracts and providing some value to the companies shareholders. If not they would most likely have to have sold the business to another company.

Like the situation with Northrop Grumman (NOC) where they decided to divest themselves of their TASC subsidiary due to changes in Government conflict-of-interest rules McDermott is making a major change to their company for no other reason then being forced to by a Government contracting rule. Many times these situations occur because the new rules are not well thought out or have unintended consequences.

Many of these rules are coming about due to concerns by the Government that contractors are taking advantage of them or avoiding their obligations. At the same time companies are being forced to do things that are not in their best interest or that of the economy or share holders. The Government likes to think it buys efficiently and contracts for the best value but the many types of these rules and laws sometimes leads to situation where they are doing things that lead to the opposite.

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