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Sara Potter, VP, Associate Director, Thought Leadership and Insight, Sam Mannai, Analytics Consultant, and Nicholas Buco, Consultant contributed to this article

On December 3, the U.S. Senate passed its version of the 2017 Tax Cuts and Jobs Act. The Senate version of the bill has a number of provisions designed to help American companies become more competitive, including cutting the corporate tax rate from 35% to 20%, allowing businesses to fully deduct business expenses, giving a 23% deduction for pass-through businesses, and reducing the tax rate for historical untaxed foreign earnings from 35% to 14.5% for cash and 7.5% for non-cash assets.

Because of the differences between the bill passed by the Senate and the version passed by the House of Representatives on November 16, the two bills now must go to a conference committee for reconciliation before the final bill can be sent to the White House for a presidential signature. The numbers in the Senate bill are likely to change as lawmakers work to come up with a compromise bill by the end of the year. One feature of the Senate bill that needs to be addressed is the AMT (alternative minimum tax); this tax was kept in the final bill that was approved, but because the corporate tax rate and the AMT are now identical (20%), this potentially nullifies the popular R&D tax credit.

Wall Street is enthusiastic about the prospects for corporate tax reform, pushing stock market indices to new highs. In particular, there has been a lot of discussion about the potential repatriation of assets held overseas, namely cash. This is because U.S. domiciled companies have earned record profits overseas and have kept those earnings abroad to avoid paying the 35% U.S. rate.

The Apple Example

One of the best examples of this phenomenon is Apple (AAPL-US), a company that (according to FactSet’s GeoRev data) currently derives over 60% of its revenue outside the U.S. As of the company’s latest annual report (data for September 30, 2017), Apple had accumulated $268.9 billion in cash and marketable securities on its balance sheet. Of that, $252.8 billion is strategically stashed offshore, representing billions in tax savings. As seen in the chart below, as foreign sales have increased, so has the cash balance held by Apple.

Apple had accumulated $268.9 billion in cash and marketable securities on its balance sheet. Of that, $252.3 billion is strategically stashed offshore.png

Apple is not alone. Current estimates put the aggregate balance of cash held overseas by U.S. companies, with the purpose of tax avoidance, at $2.5 trillion. A permanent reduction in the corporate rate and one-time toll tax on historical untaxed foreign earnings could, in theory, result in a sizable amount of that cash coming back to U.S. soil. But what would the cash be used for once it is back in U.S. coffers?

Using the 2004 Tax Holiday for Comparison

For clues on how companies might put this cash to use, an examination of the 2004 tax holiday (the only other time there has been a break for repatriated assets) may provide some insight. The 2004 tax holiday, which was part of the American Jobs Creation Act, allowed qualifying companies to repatriate earnings held overseas at a 5.25% tax rate. This resulted in $312 billion dollars being brought back from overseas according to the Congressional Research Service. The idea was that the cash was to be pumped back into the economy via investment and job creation.

It is important to note that the current tax plan differs from the 2004 tax holiday in certain aspects. In 2004, it was a one-time tax strictly on the earnings repatriated, which led to companies quickly stashing cash back overseas. This time around, companies’ entire positions of off-shore earnings will be considered repatriated automatically, with additional rates of 10% for cash and 5% for other earnings that are not brought back. The taxes accrued are payable over several years, likely eight. Surely, this is a payment schedule that Apple and other companies could manage.

To illustrate how companies responded to the 2004 tax holiday, we pulled the constituents of the S&P 500 as of December 31, 2015, into FactSet’s Universal Screening application. Then we brought in special dividends, share buybacks, and CAPEX data for 2003-2005 to see whether there was an observable spike to indicate where repatriated earnings were directed.

From 2003 to 2005, 63% of the S&P 500 constituents increased their annual dividends. In 2003, a combined $30.3 billion in special dividends was paid to shareholders of S&P 500 constituents; this figure jumped to $179.4 billion in 2004, an increase of 492%. In 2005, aggregate special dividends fell to $49.2 billion. Of this $179.4 billion, a collective $149.8 billion (84%) came solely from companies in the GICS Information Technology sector. Notable companies such as Microsoft (MSFT-US) and Motorola (MSI-US) contributed the most to this total. Financials and Healthcare were also top contributors.

Top 10 Special Dividend Contributors in 2004 and 2005

Company Symbol Company Name Spec. DPS 2003 Spec. Div $ 2003 Spec. DPS 2004 Spec. Div $ 2004 Spec. DPS 2005 Spec. Div $ 2005 Spec. Divs $  2004 + 2005
  Sum   $1,710.7   $175,626.9   $45,916.1 $221,543.01
                 
MSFT Microsoft Corporation 0.0 $0.0 3.00 $130,152.0 0.00 $0.0 $130,152.00
AXP American Express Company 0.0 $0.0 0.00 $0.0 6.27 $34,441.3 $34,441.34
MSI Motorola Inc. 0.0 $0.0 14.45 $19,645.2 0.00 $0.0 $19,645.20
ABT Abbott Laboratories 0.0 $0.0 2.85 $17,797.6 0.00 $0.0 $17,797.56
CAR Cendant Corporation 0.0 $0.0 0.00 $0.0 11.00 $4,547.3 $4,547.26
ASH Ashland Inc. 0.0 $0.0 0.00 $0.0 12.61 $3,673.7 $3,673.74
BEAM Fortune Brands Inc. 0.0 $0.0 0.00 $0.0 5.41 $3,253.8 $3,253.79
USB U.S. Bancorp 0.0 $0.0 0.42 $3,123.5 0.00 $0.0 $3,123.46
CTX Centex Corp. 3.1 $1,710.7 5.29 $2,625.7 0.00 $0.0 $2,625.67
LB Limited Brands Inc. 0.0 $0.0 1.23 $2,283.0 0.00 $0.0 $2,282.99

A similar pattern can be observed with share repurchases. In 2003, $115 billion worth of shares were bought back from shareholders; this number grew to $202.7 billion and $336.5 billion in 2004 and 2005, respectively, a cumulative increase of 193%.

Top 10 Share Buyback Contributors in 2004 and 2005

Company Symbol Company Name 2003 $ Share Repurchases 2004 $ Share Repurchases 2005 $ Share Repurchases $ Share Repurchases 2004 + 2005
  Sum $51,517.7 $57,122.8 $103,009.5 $160,132.3
           
XOM Exxon Mobil Corporation $5,899.2 $9,951.1 $18,220.6 $28,171.7
MSFT Microsoft Corporation $2,764.0 $2,629.1 $17,417.3 $20,046.4
CSCO Cisco Systems, Inc. $7,400.0 $10,770.0 $8,029.5 $18,799.4
INTC Intel Corporation $4,000.0 $7,514.9 $10,635.9 $18,150.8
C Citigroup Inc $2,413.2 $1,799.1 $13,541.9 $15,341.0
IBM International Business Machines Corporation $4,403.0 $7,270.0 $7,671.3 $14,941.3
PG Procter & Gamble Company $0.0 $0.0 $12,668.9 $12,668.9
BAC Bank of America Corporation $9,612.7 $6,288.6 $5,790.5 $12,079.1
PFE Pfizer Inc. $13,025.6 $6,681.1 $3,810.2 $10,491.2
DELL Dell Inc. $2,000.0 $4,218.9 $5,223.5 $9,442.4

On the investment side, S&P 500 companies spent a combined $372 billion on capital expenditures in 2003, increasing their investment to $385 billion in 2004 and $436 billion in 2005.

While there was an increase in capital expenditures, the enormous spikes in special dividends and share buybacks indicate that a large portion of repatriated assets were used to reward shareholders directly.

To apply these observations to today’s environment, we can look at how the percentages of revenues derived overseas, as well as cash balances, have changed since 2004. In 2004, companies in the S&P 500 derived an average of 51.2% of total revenue from the U.S. with an average of 20.2% coming from foreign sources. The same companies carried an average of $7.5 billion in cash on their balance sheets. The breakdown by sector shows tech, materials, energy, industrials, and healthcare leading the way by percentage of non-domestic revenue.

GeoRev % s in 2003 and 2004

  Company Symbol United States 2003 Rev % Europe 2003 Rev % Asia 2003 Rev % Ex U.S 2003 Rev % United States 2004 Rev % Europe 2004 Rev % Asia 2004 Rev % Ex U.S 2004 Rev %
Average   81.9% 8.3% 5.6% 18.1% 79.9% 9.2% 6.3% 20.1%
  10 Energy Average 74.1% 8.0% 4.8% 25.9% 72.9% 8.0% 5.0% 27.0%
  15 Materials Average 67.0% 15.6% 9.5% 33.0% 65.5% 18.0% 9.6% 34.4%
  20 Industrials Average 75.7% 12.6% 6.0% 24.3% 74.5% 12.6% 6.8% 25.4%
  25 Consumer Discretionary Average 86.9% 7.0% 2.8% 12.9% 86.7% 7.1% 2.7% 12.9%
  30 Consumer Staples Average 78.6% 11.2% 5.0% 21.4% 76.3% 12.7% 5.3% 23.6%
  35 Health Care Average 83.2% 9.2% 4.7% 16.8% 82.2% 10.0% 5.0% 17.7%
  40 Financials Average 98.7% 0.5% 0.6% 1.3% 91.3% 3.6% 3.4% 9.9%
  45 Information Technology Average 64.5% 14.5% 16.4% 35.5% 63.3% 14.7% 17.1% 36.6%
  50 Telecommunication Services Average 100.0% 0.0% 0.0% 0.0% 100.0% 0.0% 0.0% -0.1%
  55 Utilities Average 94.9% 1.1% 0.7% 5.1% 95.8% 1.0% 0.5% 4.1%
  60 Real Estate Average 97.0% 0.5% 1.0% 3.0% 93.4% 0.6% 1.1% 6.5%

As of 2016, the share of non-domestic revenue had increased to 30.2% since 2004, an increase of 46%, with average cash balances increasing 16.5% to $8.8 billion. Financials, tech, healthcare, and the energy sectors still led the averages in non-domestic revenue and cash.

GeoRev %s and Cash in 2016

  COMPANY SYMBOL UNITED STATES 2016 REV % EUROPE 2016 REV % ASIA 2016 REV % 2016 EX U.S REVENUE % 2016 CASH POSITION 
Average   69.8% 11.4 10.9% 30.2% $8,831.3
  10 Energy Average 74.9% 7.9 6.4% 25.7% $6,295.9
  15 Materials Average 53.7% 17.5 14.7% 46.5% $2,000.2
  20 Industrials Average 67.0% 12.3 10.4% 33.6% $3,631.6
  25 Consumer Discretionary Average 72.4% 12.1 8.8% 27.6% $3,154.5
  30 Consumer Staples Average 66.5% 12.8 9.2% 33.3% $5,004.5
  35 Health Care Average 67.2% 15.7 10.9% 33.2% $6,197.2
  40 Financials Average 78.9% 8.0 5.4% 18.3% $30,746.1
  45 Information Technology Average 45.8% 16.3 29.9% 54.9% $13,119.6
  50 Telecommunication Services Average 97.7% 0.3 0.4% 3.0% $4,293.7
  55 Utilities Average 95.5% 1.2 0.2% 5.2% $3,649.0
  60 Real Estate Average 91.6% 3.0 2.3% 9.0% $1,235.2

While history does not always repeat itself, using the 2004 tax holiday as an indicator of potential outcomes provides some insight for the possible ramifications of the planned tax overhaul plan. Based on the estimated $2.5 trillion worth of cash stored overseas, we can assume that there will be significantly more cash distributed this time around. With the bill potentially ending up on President Trump’s desk before the end of the year, the resulting shareholder distributions could be right around the corner.  

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