Now that Republicans in Congress have released their final tax bill, two big questions remain. What will companies do with all that cash, and who will benefit the most?
In the joint House-Senate legislation released Friday, which is expected to be voted on next week, the crucial provisions for companies in earlier bills remained. They include a cut in the corporate rate, increased deductions for capital spending and lower levies on repatriating overseas profits.
One significant change from the Senate bill is that the rate reduction — to 21 percent from the current 35 percent — will begin next year, instead of being delayed until 2019. That could lead to a chaotic last few weeks of 2017, as companies try to best position themselves.
Savings from corporate tax cuts will go either to shareholders via dividends and stock buybacks, customers in the form of lower prices and better products, or employees through higher wages, said David Zervos, chief market strategist for Jefferies LLC. But distribution will vary. Some firms, such as Caterpillar Inc., are saddled with pension liabilities that need to be funded. Other industries, including chip-makers, could use extra cash to cut prices.
Many predict that the bulk of the gains will go to shareholders. The rationale is that U.S. companies already have plenty of cash and borrowing rates are at historic lows. That means there are already few hurdles to increasing investment, so the tax cuts won’t fundamentally change that mindset.
An easy way to identify winners is to find companies that generate all, or most, of their profits in the U.S. They pay the highest effective tax rates and will see the biggest reductions. But the effect will vary — even within the same industry. In beverages, for example, Coca-Cola Co. paid a 19.5 percent tax rate last year, while levies for Dr Pepper Snapple Group Inc. hit 33.8 percent.
Here’s how sectors may fare:
General Motors Co. and Ford Motor Co., the industry’s biggest companies, will benefit from the rate cut and the reduction on levies for repatriating overseas profits, according to UBS.
Big auto dealers, like AutoNation Inc., are also poised to do well because they are focused in the U.S. and pay high tax rates.
The math is pretty simple here. U.S.-based asset managers like Federated Investors Inc. and Franklin Resources Inc. pay high effective tax rates because they qualify for fewer deductions, so they will keep more of their income.
Much of corporate America is likely to spend the savings from the rate cut by increasing dividends and share buybacks. That should boost U.S. equity markets that are already near record highs, and increase the value of investments held by asset managers.
The firms could also see increased demand for their services, thanks to tax cuts for individuals, especially the wealthy. The legislation reduces levies on owners of small businesses, while also cutting income tax rates for the richest Americans to 37 percent from 39.6 percent.
The overhaul is a net benefit for U.S. banks, according to Morgan Stanley. The corporate rate cut will help lenders compete better with lower-taxed international rivals. Many provisions in the bill, including repatriation of overseas cash, could spur U.S. mergers and acquisitions that would boost investment banking. And their wealth management units are likely to see more money rolling in because the bill reduces tax rates on the wealthy.
But the reduction on interest-expense deductions will weigh on earnings. That provision may also cause companies to borrow less. It could be especially painful for banks, such as Synovus Financial Corp., with large exposure to real estate and commercial loans, Morgan Stanley said.
Lenders focused on consumers, such as Discover Financial Services and Synchrony Financial, are better positioned, because individuals already are unable to deduct interest expense, so there wouldn’t be a change in behavior, according to Morgan Stanley.
For retailers, the bill is a win on multiple fronts. They pay some of the highest tax rates because many generate all, or at least an overwhelming majority, of their income in the U.S.
Chains and consumer brands also expect the tax bill to boost demand for their goods and services. Many of those companies rely on middle- and low-income shoppers for the bulk of their sales, and changes to individual taxes — such as doubling the standard deduction — will increase discretionary income.
Several consumer-product makers, such as Coca-Cola and PepsiCo Inc., have large cash holdings overseas that could be used to fund product innovation or acquisitions, according to Bloomberg Intelligence analyst Ken Shea.
Oil-and-gas companies will be big winners because they pay the second-highest effective tax rate of any sector, at 37 percent, according to Bloomberg Intelligence. But many oil explorers and equipment providers won’t benefit because several have been unprofitable.
Another victory: a measure that opens a portion of Alaska’s Arctic National Wildlife Refuge to oil and gas drilling, which could generate $1 billion in revenue over a decade.
The renewable-energy industry avoided taking a big hit by lobbying Republicans to keep a $7,500 electric-vehicle subsidy, and a tax credit for wind-power production.
In coal, many of the largest companies, including Peabody Energy Corp. and Arch Coal Inc., won’t benefit from the rate cut because they have large net operating losses, according to Daniel Scott, an analyst at MKM Partners LLC.
The industry did notch a significant victory by getting the corporate alternative minimum tax killed — a move executives say will reduce bankruptcies.
U.S. utility giant Southern Co. didn’t get the extension it had been looking for that would’ve qualified its long-delayed nuclear power project in Georgia for a production tax credit. The Vogtle nuclear project, the costs of which have soared past $25 billion, won’t be finished before 2021, when the credit for new nuclear generation is due to expire.
Hospitals and Insurers
It’s a mixed bag for health care.
Companies will benefit because more of their profits come from the U.S. The biggest U.S. health insurer, UnitedHealth Group Inc., had a 32.5 percent income-tax rate in the third quarter. The bill is estimated to boost insurance companies profits by as much as 15 percent, according Ana Gupte, an analyst at Leerink Partners. Some of those gains are expected to flow to customers in the form of lower premiums.
But the repeal of Obamacare’s individual mandate won’t help health insurers and hospitals, which are already coping with the Trump administration’s efforts to undermine the law. Ending the provision — a requirement that all Americans carry health insurance coverage or pay a fine — is likely to decrease the number of people who buy coverage. For hospitals, an increase in uninsured people means fewer paying customers.
In machinery, trucking is likely to see the biggest impact, according to Jefferies. The corporate rate cut would give U.S. transportation companies of all sizes more money to upgrade their fleets with fuel-efficient vehicles. The bill’s increased deductions for capital spending would add another incentive to buy new 18-wheelers, a potential boon for truck makers like Paccar Inc. and Navistar International Corp.
The same can’t be said for farming and its equipment suppliers like Caterpillar. Farmers are struggling to be profitable at current crop prices, which means the corporate tax cut will have little impact on them. But that could change if prices rise, Jefferies said.
The tax cut could also spur industrial giants to divest businesses that aren’t core to current strategy, Jefferies said. Many conglomerates have maintained divisions because selling them would generate a big tax bill.
The overhaul could be a boon for aircraft suppliers, like Boeing Co. and General Electric Co., because airlines need to upgrade their fleets, too.
“It’s a meaningful amount of additional cash that we’ll put to work buying more airplanes, modernizing our fleet sooner,” said Southwest Airlines Co. Chief Executive Officer Gary Kelly.
U.S. drugmakers will be one of the biggest beneficiaries of the repatriation portion of the bill. They’ve been sitting on billions of dollars in overseas earnings and can now bring home that cash at a reduced rate. While the tax bill has been promoted by Republicans as a job creator, the reality is that drug companies are more likely to return the money to shareholders, or use it to make acquisitions.
Biotech and pharma companies will get a smaller tax credit for developing drugs for rare diseases. Under current law, they can deduct 50 percent of the cost of testing drugs for rare or orphan diseases that affect only small numbers of patients. The revised bill cuts that amount to 25 percent, raising government revenue by $32.5 billion over a decade.
On the plus side, the reduction in corporate tax rates will mean companies should have lots of cash to fund acquisitions, which could increase the value of private equity-owned companies. There’s also likely to be more assets to buy. Many conglomerates have been holding onto non-core assets because they didn’t want to generate a big tax bill on the sale.
But just like banks, private equity will take a hit on the lowering of interest deductions. These firms use debt to fund acquisitions, and if borrowing becomes more costly that could disrupt their business models. It might also limit the size of deals.
The industry, an influential lobbying force, was able to minimize cuts to incentives for homeowners that it said would cause home prices to fall. The bill will allow interest deductions on the first $750,000 in new mortgage debt, down from the current limit of $1 million; the House had called for slashing it to $500,000. It also won back $10,000 in deductions for property taxes.
Major colleges are up in arms over the reversal of an obscure rule that allows their alumni and supporters to make tax-deductible contributions to their teams, in return for priority seats at football and basketball games. The provision has been credited with the financial boom in college sports over the past three decades, and the rhetoric around the change has been foreboding.
“We’ve contributed $50 million over the past five years to the university,” said Louisiana State University Senior Associate Athletic Director Robert Munson. “This threatens to not only reduce our operations dramatically, but also could put us back on the university dime.”
At the professional level, the bill keeps a provision that allows the use of tax-exempt bonds for stadium projects. It would have been eliminated under the House version. Since 2000, the federal government has subsidized sports stadiums to the tune of $3.7 billion, according to a recent study by the Brookings Institution.
Tech also stands to benefit from repatriation. U.S. companies have $3.1 trillion in overseas earnings, according to a Goldman Sachs Group Inc. estimate. The largest stockpile belongs to Apple Inc. at $252 billion — 94 percent of its total cash. Microsoft Corp., Cisco Systems Inc., Google parent Alphabet Inc. and Oracle Corp. round out the top five, data compiled by Bloomberg show.
One caveat is that the repatriation provision could generate a large tax bill. In Apple’s case, a 14.5 percent rate would equate to $36.6 billion in taxes, or about $7 a share, according to Bloomberg Intelligence.
This is one industry that is likely to increase capital investments because telecom companies regularly need to upgrade their networks. And the bill allows deductions on such spending to be immediate, instead of over several years. AT&T Inc. has said it will invest $1 billion more in U.S. infrastructure next year under the new tax plan.
“This is a capital-freeing event,” AT&T CEO Randall Stephenson said last month.
About 30 colleges and universities may pay a 1.4 percent tax on their endowment investment returns, including Harvard, Yale and small liberal arts colleges such as Amherst and Williams. The schools that would be taxed have at least 500 students and more than $500,000 in endowment per student.
“An excise tax on the endowments of some private colleges and universities, regardless of how many or how few institutions it affects, is a remarkably bad idea that takes money that would otherwise be used for student aid, research, and faculty salaries and sends it to the Department of the Treasury to finance corporate tax cuts,” said Ted Mitchell, president of the American Council on Education, a higher education trade group.
Colleges have widely opposed the bill, although the final version dropped a controversial tax on graduate school tuition waivers included in the House measure that sparked an outcry from graduate students and their advocates.