How has US tax reform altered the treasury landscape?

It has been more than six months since President Trump signed his Tax Cuts and Jobs Act (TCJA) into law.

The Act reduced business and personal taxes. The most eye-catching measure, however, was the reduction of the headline corporate tax rate from 35% to 21%. Before this cut, the US had the highest tax rate of any OECD country. It now ranks in the lower half of the corporate tax table.

The corporate treasury departments of large multinational companies have been the most affected by these cuts. A majority of the media focus since the tax reductions has been on the cash returned to investors via share buybacks and dividends. However, there has been a huge amount of behind-the-scenes activity in addition to these headline-grabbing developments. This will result in fundamental structural changes that will shape corporate balance sheets and corporate treasury for years to come.

What’s happened since December?

Corporate treasury and tax departments were preparing for the TCJA long before it came into law in December. This has been reflected by the increase in certain activities:

Cash Repatriations

It is estimated that some US companies hold over $2tr offshore. The TCJA imposed a one-off charge on cash repatriations, but JP Morgan estimates that $217bn has been brought back to the US in the first quarter of this year alone. The US Federal reserve estimates that foreign earnings held abroad fell by an annualized $633bn in the same period, an almost threefold increase on 2017.

Liquidating Offshore Bond Holdings

In February, Bank of America Merrill Lynch reported an increase in corporate bond spreads. It deduced this was the result of companies liquidating its offshore bond holdings in anticipation of repatriation. This has led to the bond holdings held by companies dropping significantly since December, with big players such as Apple shrinking their corporate bond portfolio for the first time in years.

Share Buy Backs & Cash Purchases

Last month, CNN reported that US companies completed a record $201.3bn of stock buybacks and cash takeovers in May. This means that repatriated cash is being returned to investors and put to work quickly by companies. Share buybacks alone hit $178bn in the first quarter of 2018, topping the previous record set in 2007, just before the economic crash, according to the New York Times.

What to expect in the future

How will the TCJA impact corporate treasury in the future? Outlined below are some things to expect:

Less Cash

The impact of the TCJA from a corporate treasury perspective is that companies will now hold less cash. The TCJA reduces the need to hold foreign profits offshore, with the expectation that cash will now be put to a more productive use. Share buybacks, dividends, acquisitions, and capital expenditure will all reduce the aggregate cash balances held by companies.

Less tax risk

The management of tax risk is a large factor in corporate treasury activity. Treasury teams work closely with their tax colleagues to map out funding routes designed to minimize tax expense. While this collaboration will continue, the penalty for getting this wrong will be lower due to the greater alignment between European and US tax rates.

More fluid capital flows

Bringing cash into the US from foreign locations is now less expensive. The flow of cash between foreign entities within the same business will become more fluid. Risk reduction alongside administrative overhead is expected to increase the likelihood of cross-border capital flows.

Lower Debt Levels

Most of the corporate debt is rolled over on maturity by issuing a new debt instrument or raising bank funding. Now US companies plan to repay debt fully, either before it matures or on maturation. A survey in 2017 by Bank of America Merrill Lynch showed that debt repayment was expected to be the number one use of repatriated cash, ahead of share repurchase and capital expenditure.

Planning for the future

These developments are positive for corporate treasurers. The imbalance created by disparate tax rates in western economies will be eroded as balance sheets adjust to the new environment. Corporate treasury is now in a position to drive significant investment into its operations, safeguarding its role as a strategic partner. To do so, it must reinvigorate its way of operating, and question what has been taken for granted in the past. Businesses, especially those in the US, are now more dependent on corporate treasury than ever before. This provides a massive opportunity that must not be missed.

Conor Deegan is managing director of CashAnalytics.