by Tom Allen
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The recently announced “tax repatriation holiday” could have a favorable impact on M&A activity in 2018. This new tax plan will permit companies to transfer (repatriate) cash back to the US under a much lower tax rate. Prior to these changes, many companies have seen a large proportion of their cash reserves effectively locked-up overseas.
How Much Cash Is Locked-up Overseas?
The aggregate of US cash locked-up overseas is vast - studies suggest it might total in excess of $2.5 trillion (Business Insider). Of this, S&P 500 Companies hold around $920bn – with estimates suggesting around $250bn could be repatriated.
Apple, Google and Microsoft are famous for hoarding cash overseas. Recent estimates put their overseas cash reserves at $250bn, $107bn and $139bn respectively (Bloomberg). Apple’s overseas cash reserves grow at around $3.6m per hour (The Wall Street Journal). For many companies, overseas cash reserves have been fueled by the proliferation of globalization. They have accumulated as a result of overseas sales (such as in relation to software in the case of Microsoft) and due to unfavorable tax rates creating a disincentive to bring cash home.
What Exactly is Changing?
For many years, some of the US’s largest companies with operations overseas have argued that their foreign profits should not be subject to the 35% corporate tax rate levied on profits generated domestically. Under the new tax plan, companies repatriating cash, stock and other liquid assets to the US, will face a “transition” tax bill of 15.5% (8% for cash invested in real estate and other tangible assets) compared to the previous rate of 35%. Looking at the numbers, if Microsoft, Google and Apple were to repatriate their total estimated overseas cash reserves, they would be facing tax bills of around $39bn, $17bn and $22bn respectively (compared to $87.5bn, $37bn and $49bn under the previous applicable rate of 35%). Not only is this a coup for companies previously subject to locked-up cash reserves – repatriation could act as a significant stimulus to the US economy in terms of tax revenue collected and a resultant multiplier effect.
How Might M&A Activity be Impacted?
It is anticipated that shareholders will be the main beneficiary of any large-scale cash repatriation – arising in the form of super-normal dividend payments or share buy-backs. Debt repayment could also be targeted – Apple, for instance, has around $97bn of debt. It is also conceivable that the tax repatriation holiday may fuel an M&A spending spree. The extent to which repatriation may fuel M&A depends on a company’s M&A strategy. It is unlikely that an abundance of cash will significantly alter the course of an established M&A strategy – for instance, other than the 2016 acquisition of LinkedIn for $26bn, Microsoft’s acquisitions have all been sub-$10bn. Google’s largest acquisition to date is Motorola (for $12.5bn in 2011) while Apple’s largest acquisition to date is the $3bn paid for Beats in 2014.
These Silicon Valley Giants have never been short of cash and so cash being locked-up overseas is unlikely to have prevented any mega-deals from being pursued. Rather, these companies have shown a preference for a larger number of smaller, strategic acquisitions – so perhaps it is more likely that freed up cash will be deployed to support a greater number of riskier corporate venturing initiatives. Tech and pharma are arguably the sectors most likely to be impacted by repatriation-fueled acquisitions due to the amount of cash companies in these sectors typically have locked-up overseas. One possible outcome could be that cash-rich acquirers pay over-the-odds for a new breed of $1bn + unicorn.
That said, with the likes of Spotify and Airbnb rumored to be ripe for IPO is 2018 (valued at around $20bn and well in excess of $30bn respectively) there is a chance IPO plans could be shelved and that 2018 will see a mega-deal.