Glaxo hit by $5bn US tax demand

GlaxoSmithKline yesterday pledged to fight a $5bn (£2.8bn) tax demand slapped on it by the US authorities in a long-running dispute over profits made by the British firm in the 90s.

Shares in Europe's largest drugs maker sank by more than 2% after the size of the bill emerged. The internal revenue service alleges that GSK owes it $2.7bn in unpaid tax for the years 1989 to 1996 - more than twice the $1.3bn it has paid for the period. If it were forced to shell out the full amount, interest would add another $2.5bn, according to the company's calculations.

Later this year GSK is expected to receive a second disputed tax bill, covering 1997-2000.

The IRS believes that Glaxo Wellcome - which subsequently merged with SmithKline Beecham to create GSK - used so-called "transfer pricing" to artificially suppress the level of profits it booked in the US market on products such as its ulcer drug Zantac.

GSK reacted defiantly to the demand, saying it would file a legal objection in the US tax court. That could prolong the dispute, which dates from the early 1990s, since the case is unlikely to be heard until next year at the earliest.

"Disagreements with and between revenue authorities as to tax allocations between related companies in different tax jurisdictions are inevitable for a global business such as GSK," the drugs firm said in a statement. It insisted the IRS's approach in this case had been "inconsistent with the treatment of other pharmaceutical companies, including GSK legacy company SmithKline Beecham".

Glaxo stressed that it had made some financial provision for the disputed tax liabilities, though it declined to confirm exactly how much cash it had put aside.

Shareholders had been warned about the continuing dispute, but the City was taken aback by the scale of the demand. Glaxo's shares lost 27p to close at £12.33.

Analysts said the dent in the share price was limited because investors believed cash-rich Glaxo could cover the bill if it was forced to. "The company is just a cash-machine. A bill like this is just an ant on the back of an elephant," said one expert. GSK reported free cash-flow for the full year 2002 of £5.4bn.

Ratings group Standard & Poor's said it would be leaving Glaxo's credit rating unchanged despite the potential $5bn liability. "Even in an adverse case, the group has excellent liquidity and superior free cash flow."

Analysts at Deutsche Bank added that of 12 recent disputed tax cases in the US, half were settled with the firm in question making no payment at all, two companies had their bills cut by half, and four had to pay only a quarter of the original demand.

The potential bill was expected to increase unease about Glaxo's financial health in a year in which profits could suffer from the sharp decline in the dollar, and Paxil, its treatment for depression, is to face generic competition.

One analyst said that the markets could downgrade expectations for GSK "significantly" if the dollar slide is under way when it gives its financial results next month.

GSK said it believed yesterday's $2.7bn demand followed a breakdown in talks between the IRS and Britain's Inland Revenue. The Revenue had unsuccessfully supported the argument that Glaxo had correctly allocated its profits between America and Britain.