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Playing the Government Incentives Game

    Client Alerts
  • January 26, 2012

In late November, the State of North Carolina was abuzz with news that Chiquita Brands International, Inc. was moving its global corporate headquarters from Cincinnati, Ohio to Charlotte, North Carolina. As part of that move, which involves 400 jobs and $14 million in investment, Chiquita is expected to receive cash incentives valued at over $21 million, all of which come from state or local governments.

With federal programs and incentives ending and facing reduced funding, companies are looking more closely at state and local incentives as an alternative or supplemental source. As the Chiquita example shows, these incentives can be substantial.

Incentives – Not Just for Big Projects or Relocations

A common misconception is that state and local incentives are only available for major headquarter relocations or substantial capital investments. While these often get the most press, incentives may be available for a variety of jobs creation and/or capital investment situations. Companies are often surprised to learn that many common corporate transactions provide an opportunity to pursue, retain or expand state and local incentives.

Location.  What will qualify for incentives, and how much a company can expect to receive, varies greatly from state to state and even between locations within a state. A general rule of thumb is that projects located in more rural or economically depressed locations qualify for greater incentives. However, the company also needs to consider the governmental entity’s ability to fund those incentives. Some states are more aggressive than others in pursing projects and investment via incentives, with states in the Southeastern and Central U.S. having reputations for being among the more aggressive locations.    

Industry.  Certain industries or types of investment are more favored by state and local governments, which can lead to more incentives. Generally manufacturing or production-based investment qualifies for incentives. Also, if the project involves a publicly-favored industry then it may be able to attract additional incentives. Alternative energy projects are a current favorite. Many states and regions freely discuss their targeted industry sectors. 

Project Parameters – Size and Wages.  There is no general threshold for how large a project must be to receive incentives, but many local governments will require the company to meet a minimum wage test to qualify for incentives. Generally, states are more focused on job creation while local governments are more focused on capital investment. The wages associated with job creation will also impact the incentive package. Executive or professional level salaries are more sought after than those paying close to minimum wage. Obviously, larger projects will result in more competition among locations and likely drive up the value of incentives.

What are the Types of Incentives?

While the type of state and local incentives vary from location to location, they often take the form of one of the following types:

Incentives may be provided upfront or may be spread out over time and may last as long as 40 years. We find that most companies view short-term incentives as the most valuable and cash grants are by far the most preferred.

How Does the Process Work?

State and local incentives come from a variety of sources. Some will be exclusively from the state, others exclusively from local governments, and some will be from quasi-public organizations whose goal is to encourage economic development or infrastructure in rural areas.

Prior to inquiring about possible incentives, either directly or with third-party assistance, a company needs to determine if the search will be a public one or if it wants to undertake that search confidentially. There may be benefits and drawbacks to each approach. Disclosing the name of a desirable company may increase interest and competition, and drive up the value of an incentive package. However, disclosure may also create disruption among the company’s workforce, create concern with the location that stands to possibly lose the jobs, and increase the price of obtaining real estate to locate the project. The determination of whether to undertake the incentives search confidentially or not may also depend on the nature of the project (such as whether it is a headquarter relocation or consolidation). 

In most locations, in order for a company to qualify for state or local incentives the company must be considering at least one alternative location for the investment, expansion, relocation or project. In the industry this is often called meeting the “but for” test – but for the incentives being offered, the company would not consider that location. Because of this requirement, the analysis of whether to pursue incentives has to occur before a company makes a final decision internally, as many locations will require the company to sign a statement representing that the incentives are a condition to the company locating the project there.

Many state governments will want to control the timing of the announcement of an investment, relocation or expansion. The company should likewise work to maximize the positive press that can be gained from the announcement. The timing of the announcement often involves orchestrating state government, local government and a host of internal groups within the company including marketing and public relations, government, legal and others.

Most state and local incentives will involve a commitment on the company’s behalf to the job creation and/or capital investment. If the company fails to meet and maintain those commitments, there is usually a requirement to pay back some or all of the incentives, which is called a “clawback."  In many instances clawbacks are negotiable, both in terms of the time and amount.

Tips and Best Practices

Identify a Team
To maximize the value of state and local incentives, and the benefit to a company and its shareholders, the process should include a team of various stakeholders, both within the company and externally.

Companies often wonder whether to use an outside party to assist in the state and local incentives process. There are many benefits to using an independent third party to manage the incentives negotiation process. Doing so can save the company time and streamline the process. Sometimes incentive discussions involve advocating the company’s position strongly in uncomfortable situations and using a third party keeps the company one step removed. This also channels communication through one central source to help monitor the message and the process. A third party has the pulse of the current incentives market, has personal relationships with state and local economic developers, and can gauge the reasonableness of your incentives offer and benchmark it against the market. In virtually every case, it is helpful to engage a third party to maximize the benefit received. In choosing your third-party partner it is important to chose one that has experience with state and local incentives. 

Adopt a Process
Companies should incorporate actions that may create eligibility for incentives (or increase the value of those incentives) into their capital expenditure and allocation process. One company that we work with requires that any project which involves job creation or capital investment above a pre-determined threshold must work through an incentives analysis prior to approval for funding.

It is important that a company not wait until too late in the process to begin considering incentives. The incentives process takes time to navigate securing proposals, applying for incentives, attending any required public hearings, and going through the formal approval and contract negotiation processes. By not incorporating an incentives inquiry early into the process, the company not only risks violating the “but for” test, but it also may have to decide to either delay the project or forego incentives.  

Companies should consider using a standard request for proposal process to examine incentives for multiple locations. Use of a standard request also allows for more equitable comparisons of multiple locations and incentive offers.      

Incentives analysis and planning should be part of the internal discussion when a company is considering making a company acquisition, combination or divestiture.

Two + Two = Five
Many incentive programs look at job creation and capital investment over a three to five year window.  Companies should look broadly at their expansion plans at a location over that same window. Too often companies prefer to apply for incentives based on multiple small projects at a location instead of aggregating those into a broader five-year plan. An expansion encompassing 50 new jobs and $200 million in capital investment is almost certain to secure more incentives than two separate projects of 25 jobs and $100 million. If the clawback is a proportional one, the company may be better off seeking incentives on a stretch proposal and falling just short of its goals.    

Examine the Fine Print
The incentive proposals from state and local governments require detailed analysis and comparison. Many incentive values will be grossly inflated and do not take into account the period of time over which the company will receive the money. Due to a company’s particular tax situation, some incentives, such as tax credits, may have little or no value to the company. This analysis becomes even more important when there are multiple states offering incentives which are of a different nature and have differing eligibility criteria and function differently.

We also recommend applying for incentives early so that you have time to review the incentive package and also to review any contracts that the company may have to execute upon accepting the incentives.  There are instances where the legal documentation is not consistent with the company’s expectation or the offer letter and it is best to be proactive to have time to address these issues.     

Once incentives have been awarded and the contracts have been executed, we recommend preparing a memorandum of understanding that summarizes the state or local incentives, the obligations and other relevant information such as required annual filings. This makes for a smoother transition to the parties who will be handling the compliance aspects of the incentives – such as the location management team, finance, human resources and legal departments. 

State and local incentives are part of the current economic landscape and are expected to stay that way for the foreseeable future. Companies, their shareholders, and the public have come to expect state and local incentives to play a role when job creation and/or capital investment occur. If your company is planning a relocation, expansion, consolidation, capital investment, job creation or merger, then it is prudent to examine what role state and local incentives might play as part of those plans.


Additional Articles from the Winter 2012 Public Company Forum:


Shedding Light on Political Spending

Attorney-Client Privilege – A Public Company Gotcha

Angry Birds and Board Books: The Case for Electronic Board Portals

Dodd-Frank Act Progress Report: Winter 2012