It has been over six months since President Trump signed his Tax Cuts and Jobs Act (TCJA) into law. The act reduced a range of business and personal taxes, however they most eye-catching was the reduction of the headline corporate tax rate from 35% to 21%. Before this cut, the U.S. had the highest tax rate of any OECD country. It now ranks in the lower half of the corporate tax table.
Few areas of the business world have felt the impact of these tax cuts, from a practical perspective, more than the corporate treasury departments of large multi-national companies. While much of the media focus since the cuts has been on the cash returned to investors via share buy backs and dividends, there has been huge amount of behind-the-scenes activity in addition to these headline grabbing developments. The resultant fundamental structural changes will shape corporate balance sheets and Corporate Treasury for years to come.
What’s happened since December?
Corporate treasury and tax departments were readying themselves far in advance of the TCJA coming into law in December. This is borne out by the numbers since then, which has shown a significant uptick in certain activities:
It is estimated that U.S. companies hold over $2 trillion offshore. The TCJA imposed a once off charge on cash repatriations, but JP Morgan estimates that $217 billion has been brought back to the U.S. in the first quarter of this year alone. The U.S. Federal reserve estimates that foreign earnings held abroad fell by an annualised $633 billion in the same period, an almost threefold increase on 2017.
Liquidating Offshore Bond Holdings
As early as February, Bank of America Merrill Lynch was reporting an increase in corporate bond spreads. They put this down to companies liquidating their offshore bond holdings in anticipation of repatriation. This has led to the bond holdings held by companies dropping significantly since December, with big players such as Apple shrinking their corporate bond portfolio for the first time in years.
Share Buy Backs & Cash Purchases
Last month, CNN reported that U.S. companies completed a record $201.3 billion of stock buybacks and cash takeovers in May. This means that repatriated cash is being returned to investors and put to work quickly by companies. Share buybacks alone hit $178 billion in the first quarter of 2018, topping the previous record set in 2007, just before the economic crash, according to the New York Times.
What to Expect in the Future
While it’s interesting to note the pick-up in certain activities since December, it’s perhaps more interesting to analyse how the TCJA will impact Corporate Treasury into the future. Below we’ve outlined some things to expect:
The headline impact of the TCJA from a Corporate Treasury perspective is that companies’ will now hold less cash. The TCJA reduces the need to hold foreign profits offshore, with the expectation that cash will now be put to a more productive use. Share buybacks, dividends, acquisitions, and capital expenditure will all reduce the aggregate cash balances held by companies.
Less Tax Risk
The management of tax risk is a big driver of day-to-day Corporate Treasury Activity. Treasury teams typically work very closely with their tax colleagues to map out funding routes designed to minimise tax expense. While this collaboration will continue, the penalty for getting this wrong will be lower due to the greater alignment between European and U.S. tax rates.
More fluid capital flows
Bringing cash into the U.S. from certain foreign locations is now less expensive and therefore the flow of cash between foreign entities within the same business will become more fluid. The lower risk and administrative overhead is expected to grease the wheels of cross border capital flows.
Lower Debt Levels
Most corporate debt is rolled over on maturity by issuing a new debt instrument or raising bank funding. Now U.S. companies, flush with cash, plan to repay debt fully, either before it matures or on maturation. A survey in 2017 by Bank of America Merrill Lynch showed that paying down debt was expected to be the number one use of repatriated cash, ahead of share repurchase and capital expenditure.
Planning for the Future
All of the above is good news for Corporate Treasury. The imbalances created by disparate tax rates in Western economies will be eroded as balance sheets adjust to the new environment. Corporate Treasury is now in a position to drive significant investment into their operations, safeguarding its role as a strategic partner. To do so, it must reinvigorate its way of operating, and question what’s been taken for granted in the past. Businesses, especially those in the U.S., are now more dependent on Corporate Treasury than ever before. This provides a massive opportunity that must not be missed.