When KKR went public in 2009, it seemed that Benjamin Franklin was only half right. Death might be a certainty, but the barbarian kings of buyouts knew how to keep taxes at bay with their trusty paper sword.
Like other private equity funds, George Roberts and Henry Kravis (pictured above) structured KKR as a listed partnership, which does not pay corporate tax on its income. Instead, so-called unit holders pay tax on their share of the partnership’s income, as if they had earned it themselves.
The downside of this arrangement has been paperwork. Anyone who owns the shares has to file a wad of forms with the Internal Revenue Service, covering such arcane details as their share of KKR’s income from passive foreign investment companies, and of the charges its oil and gas arm has incurred for “qualified intangible drilling costs”.
How all of this might interact with the tax treatment of the personal income of individual investors is anyone’s guess. “This information involves complex provisions of US federal and state tax law,” KKR warns investors, advising them to seek the help of a professional.
All this aggravation was worth it when corporate tax rates stood at 35 per cent. Now that President Donald Trump has succeeded in cutting the rate to 21 per cent, all that bureaucracy seems wearying.
Electing to become a C-corporation, as the company announced it would do on Thursday, will increase KKR’s tax rate from 7 to 22 per cent. Devin Ryan, an analyst at JMP, believes the hit to KKR’s post-tax economic net income will be in the mid-teens per cent.
It has a financial impact, too. KKR’s partnership structure made it ineligible for inclusion in stock market indices that attract trillions of dollars worth of passive investment. KKR says that mutual funds hold just 31 per cent of its partnership units, compared with 60 per of comparable financial stocks.
By ditching its partnership tax structure, it follows in the footsteps of Ares Management, which in February became the first of the major private equity groups to announce the switch.
KKR shares gained 3 per cent on Thursday, as investors bet the drag on earnings would be outweighed by increased demand for the firm’s stock. No one will know for sure until the changes take effect in July.
“The people who are buying the stock today are not the mutual funds that hopefully will comprise the ownership a year from now,” says Mr Ryan. “Hopefully that handoff happens at a higher valuation, and that’s a win for existing shareholders.”
Meanwhile, Lex says “the real issue is that uneven earnings exclude firms like KKR from the VIP section of the stock market”.
Intelligent curation and exclusive information: This is Due Diligence, the FT’s daily briefing on corporate finance, private equity and M&A. DD is delivered to your inbox Tuesday-Friday at 5am UK time. Meet the team, catch up on previous editions and sign up here. Get in touch with us: Due.Diligence@FT.com
Is China’s Xiaomi the real deal?
Lei Jun used to stroll around in a black T-shirt on a stage in Beijing, his latest smartphone model in hand, evoking the image of Steve Jobs. People often had a laugh at the performance, calling Lei’s company, Xiaomi, just another fake Apple product in a country full of forgeries.
As the company gears up for what is expected to be the largest IPO of 2018, and one of the largest flotations ever, investors are trying to figure out if Xiaomi is for real. (Here’s our 2015 profile of Lei.)
The company kicked off work on the deal in Hong Kong on Thursday with the plan of raising up to $10bn in what would be the biggest IPO since Jack Ma floated Alibaba for $25bn in New York in 2014.
Xiaomi, whose Chinese name means “millet”, was a phenomenon when it first broke into the mainstream Chinese market in 2013.
The company hawked phones in batches exclusively online, often selling out in a matter of minutes. It has since dropped the pure online marketing and has pushed into a number of other products such as TVs, toothbrushes and computer equipment.
To compete with the likes of Samsung and Apple, Xiaomi sold its wares for only slightly above the cost of production, making razor-thin margins on sales but also generating a hype that proved better than any traditional marketing.
The IPO size is huge for a business that made a pre-tax net loss last year. Xiaomi made an operating profit of Rmb12.2bn ($1.9bn) last calendar year, triple the previous year. After deducting the cost of redeeming convertible preference shares held by investors, which should convert on IPO, that became a pre-tax net loss of Rmb41.8bn.
But it should be able to find strong demand given that it will be one of the first test cases of Chinese Depository Receipts (CDRs), or certificates backed by shares that allow investors in China to own and trade overseas-listed equity. This special types of share is similar to an American Depository Receipt in the US, through which investors can buy exposure to foreign groups. Beijing gave the green light earlier this year for large tech companies to issue China depository receipts.
The IPO will also be among the first to take advantage of changes last month to the Hong Kong Exchange’s listing regime, which allows founders to retain control of their companies after listing.
The rules were changed to catch top tech companies after HKEX lost Alibaba to New York in 2014. The performance of the deal, which could come in July, might hint at whether Lei is truly of the same ilk as the leaders he seeks to emulate. Lex, for one, advises that investors approach Xiaomi cautiously.
Like a virgin: Branson enters the PE game
Richard Branson, the British billionaire and Virgin Group founder, will become a private equity executive for the first time, the FT’s Javier Espinoza reports. For years, Branson has invested in the industry, but this is the first time he is directly involved in a fund as a general partner.
He will be teaming up with Metric Capital, a London-based private equity group which has about €1.6bn assets under management and is run by his friend, John Sinik. Branson is hoping to use his brand and network to help the firm raise a new €500m fund. From there, he will play a role in sourcing consumer deals. (They are targeting deals less than €2bn in enterprise value.)
Lex thinks the private equity hustle should come naturally to the consummate brand hustler.
AJ Murphy, Bank of America’s head of global capital markets, is leaving the bank for Silver Lake, the private equity firm. Murphy had been one of BofA’s most prominent operators on Wall Street, overseeing the debt and equity capital-markets businesses of America’s second-biggest bank by assets. She started as a cold-caller at Bear Stearns in 1997, according to her LinkedIn bio, then moved up through Bankers’ Trust, Deutsche Bank and JPMorgan Chase before arriving at BofA in 2009. In 2014 she moved to Goldman Sachs as a partner, before returning to BofA just over a year later. ( FT)
Thomas Piquemal, global head of M&A at Deustche Bank, has departed after just two years at the German bank. He will join Fimalac, the holding company for French billionaire Marc Ladreit de Lacharrière, as deputy chief executive. Piquemal previously worked as finance director of EDF but quit in protest over the French state-backed utility’s controversial £18bn UK nuclear project. Before EDF, he was chief financial officer at Veolia Environnement for a year. He worked for 14 years as an investment banker at Lazard Frères in Paris, where he became a partner. ( FastFT)
HSBC has hired Société Générale’s Hubert Preschez as co-head of global banking in France as it bulks up its presence in the country. He will start in September and will work alongside Frédéric Coutant. Preschez looked after a dozen of France’s biggest companies for SocGen’s investment bank as well as its relationship with APE, the holding company for the state’s investments.
Marcelo Claure, chief executive of Sprint, has been elevated to executive chairman of the US telecoms company, a role in which he will shepherd efforts to win regulatory approval for Sprint’s merger plan with larger rival T-Mobile. The Bolivian-born billionaire was also named chief operating officer of its parent company, SoftBank Group, overseeing international operations and global government affairs, and filling a position previously held by former Google executive Nikesh Arora. Michel Combes, Sprint’s chief financial officer, who previously worked as chief executive of Dutch-based Altice, will take over as chief executive of Sprint. ( FT)
David Lim has returned to Credit Suisse as vice-chairman of private banking in south-east Asia after a 12-year stint at Julius Baer, according to Reuters. Lim will be based in Singapore.
How Morgan Stanley got its groove back A deep dive into how Jamie Gorman brought the US bank back. (WSJ)
The firing line Folksy Warren Buffett is not afraid to slash jobs at his vast portfolio of operating companies. (Bloomberg)
Interview with HSBC’s CEO The new boss at HSBC sits down with the FT to discuss his strategy for the first few years of his reign. ( FT)
Tesla: boneheaded capital(FT Lex)
Follow the FT’s deals team
Arash Massoudi in London — @ArashMassoudi
Javier Espinoza in London — @JavierespFT
James Fontanella-Khan in New York — @JFK_America
Sujeet Indap in New York — @sindap
Don Weinland in Hong Kong — @donweinland
Eric Platt in New York — @EricGPlatt
Lindsay Fortado in New York — @lindsfortado