Blackstone also says the legislation is “discrimination …”
Blackstone Says Senate Bill to Cost It $525 Million (Update2)
By Ryan J. Donmoyer
Aug. 24 (Bloomberg) — Blackstone Group LP said its annual tax bill would increase by $525 million, or triple what it would otherwise pay, under legislation proposed in the U.S. Senate.
The bill raising taxes on publicly traded private-equity and hedge-fund firms also would dissuade other companies from going public, depriving the government of revenue it would have collected as a result of those initial stock sales, New York- based Blackstone said in a letter requested by Democratic Senator John Kerry of Massachusetts.
“In our opinion, the Baucus-Grassley bill would actually result in a significant net loss of tax revenues by dramatically decreasing the number of firms willing to access the public markets,” Blackstone said in the five-page letter. Blackstone also claims that the tax increase would depress earnings and erase as much as $10.5 billion of the firm’s $25 billion market value.
Blackstone, manager of the world’s largest private-equity fund and run by Stephen Schwarzman, reported last week that its earnings more than tripled to $774 million in the second quarter of this year. The firm reported in March that its 770 employees produced an average of $2.95 million in net income last year.
The letter, written with the help of the firm’s lobbyists, marks a new tactic in the buyout industry’s efforts to quell growing calls in Congress to force them to pay taxes at a higher rate. Until now, buyout firms had fought the legislation by saying it would hurt the economy and reduce returns for investors such as pension funds.
Two-Pronged Argument
The two-pronged argument laid out in the letter to Kerry asserts the measure introduced by Senate Finance Committee Chairman Max Baucus, a Montana Democrat, and Senator Charles Grassley, an Iowa Republican, would cost the government revenue because higher taxes on Blackstone would be partly offset by lower tax payments from individual partners.
The Treasury also would forgo billions of dollars in capital-gains taxes because the Senate measure would depress the firm’s market capitalization, Blackstone said.
“By lowering the net income of the publicly traded partnership, the bill’s added taxes would have two perverse effects that erase much of the apparent benefit of the proposal in the unlikely event firms decide to go public anyway,” Blackstone said in the letter.
Kerry’s Query
Kerry, at two Finance Committee hearings last month, said he was skeptical about the Baucus-Grassley legislation and broader efforts to raise taxes on managers of private-equity firms. He asked Blackstone President Tony James and General Counsel Bob Friedman for the information contained in the letter in a follow-up meeting arranged by the Private Equity Council, the firm’s Washington trade group, according to Vincent Morris, a Kerry spokesman. Kerry’s office received the letter late yesterday, Morris said.
Robert Stewart, vice president for public affairs at the Private Equity Council, declined to comment on the letter’s contents. Blackstone spokeswoman Heather Lucania, reached by telephone, had no immediate comment.
Supporters of raising taxes on private-equity firms took issue with Blackstone’s contentions. Leonard Burman, co-director Tax Policy Center, run by the Brookings Institution and Urban Institute in Washington, said the “tiny bit of validity” in Blackstone’s argument is limited to short-term effects.
`Overstated’
“Every time you propose a tax increase, the lobbyists come in and say this is the end of the world as we know it,” Burman said, recalling his own interaction with lobbyists as a Treasury Department official in the Clinton administration. “The arguments are almost always overstated.”
Baucus and Grassley introduced the legislation raising taxes on publicly traded buyout firms on June 14, about a week before Blackstone’s initial public offering. The measure would force Blackstone and other publicly traded buyout and hedge-fund firms to pay taxes at the 35 percent corporate rate instead of as partnerships, which allow investors to pay capital-gains taxes of 15 percent on their share of profits.
Blackstone will pay $250 million in taxes as a publicly traded partnership under current law, according to a worksheet used to draft the letter. The liability would jump to $775 million, a 210 percent increase, under the Baucus-Grassley measure.
`Modest’ Gains
That would reduce earnings and depress the stock price, with the result that Blackstone partners would pay $175 million less in taxes, giving the government a net $350 million, Blackstone said in the letter. Blackstone said those “modest revenue gains” would be offset by foregone capital gains revenue.
It would take six years of higher income taxes to recover the lost capital-gains revenue, Blackstone said.
Blackstone fell 78 cents to $24.49 at 2:13 p.m. in New York Stock Exchange composite trading. The firm’s market value has risen to $27.5 billion since Aug. 20, when the letter was being drafted.
The Baucus-Grassley measure would give Blackstone and Fortress Investment Group LLC five years before requiring them to pay the higher tax rate; Baucus has said he is considering a shorter grace-period. Firms such as Kohlberg Kravis Roberts & Co. and Och-Ziff Capital Management Group LLC that have since filed to sell shares to the public would face the higher burden immediately.
The Senate legislation is separate from a broader Democratic bill proposed in the House by Michigan Representative Sander Levin and backed by Ways and Means Committee Chairman Charles Rangel that would more than double taxes on so-called carried interest, the share of profits fund managers receive for managing investors’ money.
`Some Truth’
Victor Fleischer, a University of Illinois law professor who has been advising Congress on changing the tax treatment of carried interest, said there is “some truth” to Blackstone’s argument that the tax change would discourage initial public offerings by private-equity firms. Still, he said, Congress should adopt the Senate legislation for policy reasons.
“The bill is not going to be a huge revenue-generator but it has independent merit in protecting the integrity of the corporate tax code,” he said.
Of the seven analysts that cover Blackstone, all except one rate its stock as a “buy.” They say they already discount Blackstone’s value to reflect prospective tax changes. “Management indicated that discounting the incremental differential from changes in tax rates would decrease BX’s value by about $2.50-$2.70 per common unit,” Wachovia Corp. analyst Douglas Sipkin wrote in an Aug. 1 research note.
`Discrimination’
Blackstone also says in the letter that the legislation is “discrimination against one industry” because it wouldn’t tax other publicly traded partnerships such as real estate investment trusts and oil and gas pipelines.
The firm noted that after introducing the legislation targeting buyout firms, Baucus and Grassley moved to expand tax preferences for publicly traded ethanol and energy partnerships.
“The only explanation for this glaring inconsistency is that the ethanol and energy industries are important to the states of Iowa and Montana and the financial services industries based on the east and west coasts and in other large cities are not,” the firm said.
Grassley took issue with Blackstone’s assessment. “This analysis doesn’t support the idea that private-equity firms were ever meant to get an exception to the general rule that publicly traded partnerships are taxed as corporations,” he said in a statement.
To contact the reporter on this story: Ryan J. Donmoyer in Washington at rdonmoyer@bloomberg.net
Last Updated: August 24, 2007 14:17 EDT
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