Companies – foreign or domestic, here and abroad – are generally only required to pay taxes in
the country they earn income. Only the US has this level of ‘repatriation’ penalty for bringing foreign-earned income home. This puts US companies at a competitive disadvantage world-wide, should they decide to bring the money home. Which is why they don’t. Some US companies have already moved their corporate headquarters out of the US. Others simply reinvest money earned outside the US in those foreign countries.
If we want reinvestment of that money here – whether directly by the companies (and being that most of the cash is in techs or pharmaceuticals, that will be in M&A activity), or indirectly by benefitting shareholders, we need to step back and re-look at this. Even Buffett has said hat he has no plans to repatriate Berkshire's own foreign-held cash.
I’ll attempt to do some of the leg-work for an illustration; this is that ‘cash hoard’ we keep reading about. Here are some major companies with a combination of high cash balances (and often high debt on the other side of the balance sheet) of profitable, high-cash-generating companies with notably low overall tax rates, and varying but in some cases high levels of international business:
_________
Note:
The data is 'most recently reported fiscal year end', meant to be illustrative; MSFT's cash is now about $40B, but the point is the same. I also left a few outliers like GE off the list, where the tax rates at least partly affected by prior losses from write-downs, which muddy the top-view analysis, but GE is nonetheless rumored to be keeping $70B-plus in cash/securities overseas for tax reasons.
____
We see lots of debt alongside cash piles that are far more than operating needs, for companies that accumulate new cash rapidly. The stock answer is it's been a good time to lock in debt a low rates and build cash reserves or war chests. But the accompanying tax rates suggest that repatriated cash may be a valid consideration.
Anyway, business are taxed at the corporate rates in which they are conducting business. To generalize, what we are seeing is the composite rate of the various international jurisdictions.
If a US-based corporation owns a manufacturer in Britain (the 2nd highest corp tax rate country after the US), it pays that business's taxes in GB at GB's 28% rate, not the US 35% rate. For business that US corp does in the US, it pays 35%. If it brings the GB cash it’s earned over there back to the US, it pays the 7% difference. That's vs #2 taxing GB. All other major countries have lower rates, and the impact is further exaggerated. It makes sense for the US companies to first see if there are other opportunities to reinvest the earning in GB. If it's a wash, GB gets the nod. Or more likely, even lower tax countries get the investment.
Again: We are the only country that imposes a repatriation tax penalty on its multinationals.
So why – high-tax advocates ask - don't we just do the 35% on everything tax, as with individuals? In a word, we would not be competitive overseas with any foreign competitor. The tax differentials could easily hit or exceed existing profit margins from those overseas business. In all likelihood, we'd see more US companies pulling a Halliburton-type move and setting up shop in tax-favored countries (see also the oil-patch services companies). Or doing a GS, setting up altogether separately-established-but-the-same clones of themselves overseas.
What gets even more discouraging from a US perspective is when we also see debt accumulation here, in a high-tax country, with offsetting but disconnected huge cash hoards in other low-tax countries, knowing that the cash will likely go towards foreign acquisition and expansion.
My vote - unpopular as this obviously is in our current scial/political environment (as evidenced on this board) - would be to keep to the same taxing conventions (even at higher 35% US tax rates) as the whole rest of the entire world, in terms of repatriating foreign cash-flow. Otherwise, we'll see more of what we have been seeing the past couple of years -- ballooning cash balances abroad, with the accompanying surge in IPO and M&A activity we've been seeing everywhere else.
We'd also possibly see more defections to offshore locations. The picture is extraordinarily clear in the investment banking statistics. Our companies hold something like a $trillion in cash now (the list above plus GE comprise a significant slug of that). Yet the past couple of years the US has only been seeing something like 15% of the world's IPO and M&A investment dollars.
This repatriation problem isn't the only factor in these foreign-vs-domestic reinvestment trends of course, but it increasingly is looking like it's a very material one.
So for now - from an investment/market point of view - some of the beneficiaries of all this might be small-to-mid size overseas tech and pharma companies with interesting product pipelines. For equally viable US business activities, it's a shame.
In any case, this cash build-up may be of interest for a number of reasons:
the country they earn income. Only the US has this level of ‘repatriation’ penalty for bringing foreign-earned income home. This puts US companies at a competitive disadvantage world-wide, should they decide to bring the money home. Which is why they don’t. Some US companies have already moved their corporate headquarters out of the US. Others simply reinvest money earned outside the US in those foreign countries.
If we want reinvestment of that money here – whether directly by the companies (and being that most of the cash is in techs or pharmaceuticals, that will be in M&A activity), or indirectly by benefitting shareholders, we need to step back and re-look at this. Even Buffett has said hat he has no plans to repatriate Berkshire's own foreign-held cash.
I’ll attempt to do some of the leg-work for an illustration; this is that ‘cash hoard’ we keep reading about. Here are some major companies with a combination of high cash balances (and often high debt on the other side of the balance sheet) of profitable, high-cash-generating companies with notably low overall tax rates, and varying but in some cases high levels of international business:
$Billions
Company Cash/Secur. Debt Tax Rate
Cisco Systems 39.9 12.2 18%
Microsoft Corp. 36.8 4.9 25%
Google Inc 35.0 - 21%
Pfizer 26.0 43.2 20%
Apple Inc. 25.6 - 24%
Johnson&Johnson 19.4 8.2 22%
Oracle Corp 18.5 11.5 26%
IBM 14.0 21.9 26%
Intel Corp. 13.9 2.0 23%
Amgen 13.4 10.6 12%
Dell Inc 11.0 3.4 29%
Hewlett Packard 10.9 15.3 20%
Qualcomm 10.3 - 20%
Abbott Labs 9.9 11.3 20%
Merck & Co 9.6 16.1 16%
Coca Cola 9.2 5.1 24%
Bristol-Myers Squ 8.5 6.1 NM
Dow Chemical 7.0 20.6 18%
Du Pont 6.8 10.1 18%
EMC Corp. 6.7 3.1 21%
Ebay Inc 6.6 1.5 14%
_________
Note:
The data is 'most recently reported fiscal year end', meant to be illustrative; MSFT's cash is now about $40B, but the point is the same. I also left a few outliers like GE off the list, where the tax rates at least partly affected by prior losses from write-downs, which muddy the top-view analysis, but GE is nonetheless rumored to be keeping $70B-plus in cash/securities overseas for tax reasons.
____
We see lots of debt alongside cash piles that are far more than operating needs, for companies that accumulate new cash rapidly. The stock answer is it's been a good time to lock in debt a low rates and build cash reserves or war chests. But the accompanying tax rates suggest that repatriated cash may be a valid consideration.
Anyway, business are taxed at the corporate rates in which they are conducting business. To generalize, what we are seeing is the composite rate of the various international jurisdictions.
If a US-based corporation owns a manufacturer in Britain (the 2nd highest corp tax rate country after the US), it pays that business's taxes in GB at GB's 28% rate, not the US 35% rate. For business that US corp does in the US, it pays 35%. If it brings the GB cash it’s earned over there back to the US, it pays the 7% difference. That's vs #2 taxing GB. All other major countries have lower rates, and the impact is further exaggerated. It makes sense for the US companies to first see if there are other opportunities to reinvest the earning in GB. If it's a wash, GB gets the nod. Or more likely, even lower tax countries get the investment.
Again: We are the only country that imposes a repatriation tax penalty on its multinationals.
So why – high-tax advocates ask - don't we just do the 35% on everything tax, as with individuals? In a word, we would not be competitive overseas with any foreign competitor. The tax differentials could easily hit or exceed existing profit margins from those overseas business. In all likelihood, we'd see more US companies pulling a Halliburton-type move and setting up shop in tax-favored countries (see also the oil-patch services companies). Or doing a GS, setting up altogether separately-established-but-the-same clones of themselves overseas.
What gets even more discouraging from a US perspective is when we also see debt accumulation here, in a high-tax country, with offsetting but disconnected huge cash hoards in other low-tax countries, knowing that the cash will likely go towards foreign acquisition and expansion.
My vote - unpopular as this obviously is in our current scial/political environment (as evidenced on this board) - would be to keep to the same taxing conventions (even at higher 35% US tax rates) as the whole rest of the entire world, in terms of repatriating foreign cash-flow. Otherwise, we'll see more of what we have been seeing the past couple of years -- ballooning cash balances abroad, with the accompanying surge in IPO and M&A activity we've been seeing everywhere else.
We'd also possibly see more defections to offshore locations. The picture is extraordinarily clear in the investment banking statistics. Our companies hold something like a $trillion in cash now (the list above plus GE comprise a significant slug of that). Yet the past couple of years the US has only been seeing something like 15% of the world's IPO and M&A investment dollars.
This repatriation problem isn't the only factor in these foreign-vs-domestic reinvestment trends of course, but it increasingly is looking like it's a very material one.
So for now - from an investment/market point of view - some of the beneficiaries of all this might be small-to-mid size overseas tech and pharma companies with interesting product pipelines. For equally viable US business activities, it's a shame.
In any case, this cash build-up may be of interest for a number of reasons:
(a) the new composition of balance sheets might lead to a wider acceptance of 'two column' might get mainstream analysts to broaden their valuation thinking - this adds some complexity to analysis, taking value-screening beyond one-stop analysis measures (PE, ROE);
(b) on an overall level, it points out some problems we face with our economic recovery vs investment and recovery elsewhere;
(c) on an investment-watch level, we might expect a surge of acquisition activity, especially in tech and pharma, from the combination of excess cash and the need to fill product pipelines.
