President-elect Donald J. Trump has said he would like to create a “tax holiday” so that American companies can bring back profit that was generated overseas at a lower rate. In his view, this influx of cash will create jobs.
But corporate boards and executives may have different ideas.
They are likely to use much of the estimated $2 trillion held overseas to acquire businesses in the United States, to buy back their own stock or to pay down debt, say advisers of America’s top corporate executives.
Merger bankers “are sharpening their pencils with what types of deals those larger companies can look at,” said Marc-Anthony Hourihan, co-head of mergers and acquisitions in the Americas for the Swiss bank UBS. “I think M.&A. will be fairly high on the list.”
American corporations have kept an accumulation of earnings abroad because they would be subject to paying more taxes when they bring it home.
Mr. Trump has said he wants to repatriate such corporate profits with a one-time rate of 10 percent. That is about a third of what is required by the current law, which says companies need to pay up to 35 percent of their earnings to the government, and then get credited for taxes they have already paid overseas, which usually is not much.
If they were to bring that capital back, those companies could use it to invest in their businesses, which may in turn create jobs. Yet that is only one of several options.
If the priority turns out to be deals, that would be good news for investment bankers who generate fees from large advisory assignments. It would be less so for American workers who might get laid off as a result of cost cuts derived from combining two companies.
Job losses did result the last time Congress initiated a tax holiday, in 2004. The top 15 repatriating companies brought home $150 billion but reduced their work force by 20,931 jobs, according to a 2011 study commissioned by the Senate Permanent Subcommittee on Investigations.
Some of those cuts were tied to mergers and acquisitions. As part of the study, Oracle explained how its repatriated funds were used for two acquisitions: Retek, a software provider to the retail industry, and PeopleSoft, a rival in enterprise software. After buying both for a combined $11 billion, Oracle “eliminated thousands of jobs,” the study found.
Today, bankers are rearranging their chess boards, trying to figure out which companies may want to make moves, and which ones might be ripe for the taking. That has kept the bankers in technology and health care busy. Some of the top companies on everyone’s watch list include Alphabet (Google’s parent company), Amgen, Apple, Cisco, General Electric, Hewlett-Packard, Johnson & Johnson, IBM, Microsoft and Oracle.
Yet at the moment, the potential for tax reform in 2017 has led some companies to delay deal making, according to Marc Zenner, the co-head of J.P. Morgan’s corporate finance advisory team.
Lawrence J. Ellision, chief executive of Oracle, at a hearing over his company’s takeover bid for PeopleSoft in 2004. Oracle used repatriated funds to buy PeopleSoft and another software provider, and then eliminated thousands of jobs, a congressional study found. Credit Paul Sakuma/Associated Press
“What you’ve got right now is a fair bit of uncertainty about what the state of the world will be next year with taxes,” he said. “If you don’t have to do this deal right now, maybe you can wait until next year so you can finance optimally.”
Still, some boards appear to believe they may get a better price if they sign a desired deal sooner rather than later. If tax rates decrease, a company’s profitability increases, making it a more expensive acquisition target. And, if all of the repatriating companies go after the same targets, that could drive up the price as well.
“What people fear is that if everyone waits for clarity on timing and specific tax treatment, the markets could be a lot higher, purely as it relates to this influx of capital,” Peter A. Weinberg, founding partner at Perella Weinberg Partners, said. “Do you commit capital today with the risk of timing, or do you wait for certainty and risk paying more than you would today?”
Mr. Weinberg said that if there were a significant reduction of the tax rate, companies would bring at least $1 trillion back, an amount large enough to affect the prices of equities and debt.
Some companies may not be interested in deal making. Apple, which has the largest overseas cash load, is historically not a big acquirer; its largest purchase was its $3 billion deal for Beats Music and Beats Electronics in 2014. Microsoft, with the second-largest cash hoard, will most likely still be digesting its $26 billion acquisition of LinkedIn, announced in June.
But these companies will not get away with simply letting the cash sit on their balance sheet unused for too long.
“If the money is coming back, it would be hard to tell investors, ‘I have access to it and you’re not getting it,’” Mr. Zenner said.
A certain class of hedge funds, known as activist investors, have been known to screen for companies with large piles of cash relative to their market valuations. They take large stakes and then push management to use the money for stock buybacks or richer dividends.
During the 2004 tax holiday, stock repurchases were a forbidden use of the cash, but that rule proved difficult to enforce. A 2009 study by the National Bureau of Economic Research found that each dollar of repatriated cash was linked to an increase of 60 to 92 cents in some form of payout to shareholders.
Five years later, Thomas J. Brennan, now a tax professor at Harvard Law School, published a paper debunking those figures, arguing that of every dollar brought home among the top 20 companies, 72 cents were deployed for permissible uses, including 49 cents on acquisitions, 10 cents on debt reduction and 9 cents on research and development.
There are far more activist investors with billions more in capital to deploy this time. While activists’ assets under management declined slightly this year, they still amount to about $175 billion, 50 percent higher than just four years ago, according to data compiled by the research firm Activist Insight.