OpenText’s (TSX, NASDAQ:OTEX) ongoing dispute with the IRS has just had the stakes raised, with a revised draft Notice of Proposed Adjustment (NOPA) that proposes an added $120 million in potential taxes in penalties (all figures in US dollars). Even with the increase, however, analyst Blair Abernethy of Industrial Alliance Securities is keeping the faith and expects OTEX to report a healthy quarter next month.
OpenText’s IRS battle extends back to July 2015, with the EIM company disputing the IRS’s claims regarding its fiscal years 2010 and 2012. The new NOPA should be the final tally of potential liability, says OpenText.
“Based on our discussions with the IRS and the fact that the adjustments proposed in these NOPAs reflect the IRS’ own asserted valuations of our intangible property, we do not expect the IRS to further revise the NOPAs to increase any of their proposed adjustments to our U.S. federal income taxes (subject to the continued accrual of interest),” the company said in a statement on July 11.
“As previously disclosed and noted above, we strongly disagree with the IRS’ positions and intend to vigorously contest the proposed adjustments to our taxable income,” OpenText stated.
“We are continuing to examine various alternatives available to taxpayers to contest the proposed adjustments. Any such alternatives could involve a lengthy process and result in the incurrence of significant expenses. An adverse outcome of these tax examinations could have a material adverse effect on our financial position and results of operations,” the company stated.
Abernethy notes that at $725 million, the new total potential liability represents about eight per cent of OpenText’s market cap and that the company has not reserved for the potential hit.
“While we have not yet included this potential liability in our valuation, we recognize that the amount has grown substantially since the initial estimate of $550M back in July 2015,” he writes in a client update on Tuesday. “Furthermore, we note that this dispute covers only two of the last eight years during which OpenText has been aggressively acquiring software companies.”
“Despite this ongoing IRS issue, we believe the macro enterprise IT spending environment has been healthy for OpenText this quarter and product integration efforts have progressed, thus we expect to see a typical Q4 seasonal improvement in license sales when results are released,” says the analyst.
Abernethy is maintaining his “Buy” rating with a target price of $40.00, implying a projected return of 6.7 per cent at the time of publication.