US corporates are holding huge amounts of cash offshore in non-US overseas subsidiaries, to avoid paying the 35 per cent US corporate tax rate. How can the Fed tempt companies to repatriate?
McKinsey, a management consultancy firm, estimates that the 500 largest US non-financial companies have now accumulated around $1.5 trillion more than their businesses need, most of which they are holding in offshore accounts owned by their non-US subsidiaries.
Around $1 trillion of this is held by companies with global operations, in the form of un-repatriated profits, while the remainder is held by companies operating primarily in the US. However, the bulk of the amount, estimated at $700 billion, is actually held by just 10 multinational companies in two industries: technology and pharmaceuticals, according to McKinsey.
Holding cash could be detrimental
In its report, the consultancy points out that this could result in several behaviours or cash management strategies that are detrimental for companies, including:
- making acquisitions or other capital investments that could even destroy value;
- investors in those companies may be compelled to hold cash positions in their portfolios that they may not want.
The report illustrates the second point with this striking example, which shows the enormity of the cash positions that large companies are holding offshore: “When investors bought a share of Apple for $156 on May 12 of this year, for example, they were investing $107 in Apple’s operations, and $49 in Apple’s cash.”
From the McKinsey analysis, this paragraph was of particular interest for corporate treasurers because it underlines the extent of the issue, with companies holding far more than the 2 per cent of revenues deemed necessary to run their operations:
“Our analysis of the balance sheets of the 500 largest US-based non-financial companies confirmed that they had a combined market capitalization of $17.9 trillion at the end of 2016 and revenues of $8.9 trillion. Their $1.66 trillion reserves in cash and near-cash investments amounted to around 10 percent of their total market capitalization and nearly 20 percent of their revenues. And while companies do need to hold some cash to do business, in the past we’ve found that companies can typically do with cash balances of less than 2 percent of revenues. Conservatively, we estimate that about $1.5 trillion of the total cash is above the 2 percent threshold. That’s how much cash companies are holding beyond what finance theory tells us is necessary – but it still doesn’t tell us how much could be repatriated.”
Better home than abroad
A significant amount of the $1.5 trillion figure could be brought back to the US, to reduce US-based debt. Companies might be motivated to repatriate cash to invest in equipment and factories in the US but McKinsey points out that there is a big problem here – because many of the companies that they analysed just don't need to invest in their own infrastructure or factories in the US. Another factor is that repatriated cash is likely to initially go to shareholders, McKinsey explains: “initially, most of the repatriated cash would likely end up going to shareholders in the form of share buybacks or special dividends, rather than in the form of investment in factories and equipment.”
McKinsey concludes that, although there are complications in bringing cash home to the US, it is better than leaving it sitting in a foreign bank account.
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