How Trump’s tax reform will affect buybacks

By Lisette Magers

While supporters of President Donald Trump are praising his tax plan for boosting American companies’ bottom lines, others are expecting to see less buybacks come February.

The Republican tax plan, which President Trump signed into law on Wednesday, increases the amount of cash a company has to allocate to shareholders. Corporate rate cuts – which only affect corporations with more than $250m in non-pass through corporate income – was one of the key criteria of the Republican plan.

On top of that, increased cash payments that companies could make to their shareholders was a critical tool of Republicans in crafting the tax plan. Through reduced dividends and company buybacks, businesses were expected to enhance returns to shareholders to some extent.

The tax cuts are going to encourage corporations to do more buybacks and dividends and that could be a problem, says Adam Schwartz, a director at Fitch Ratings.

“The expectation is that there’s going to be a lot of them in the next 12 months and some people would welcome that,” Schwartz says. “But history has shown us that while that’s an attractive return for shareholders, it also increases the risks that the company will be taken over by someone that’s going to be more aggressive than the management or the board would like it to be,” Schwartz says.

Current trends

There are also concerns about companies having more cash and having a propensity to spend it. In the last two years, companies have also taken advantage of low interest rates, which has boosted buybacks and dividend payments. This trend has been mostly reported in the USA. But elsewhere in the world, sales growth has already significantly slowed, in spite of a strong dollar. And with many companies likely enjoying relatively low interest rates, it doesn’t seem that there will be big earnings-gusher in the next twelve months.

After growth falls

In other words, in these countries, things should look differently for stock buybacks.

Already there are signs of change. Earlier this month, the British cabinet gave its backing to a proposal to cap the amount that companies can buy back as a percentage of their stocks. Of the 30 large companies that paid out a combined $85 billion in buybacks in the third quarter, 28 of them paid out a total of 57% of their profits in dividends, according to an analysis by Bloomberg.

In November, Sri Srinivasan, chief executive of HCA Healthcare Inc and a member of the board, said on Twitter that they were “wholeheartedly supporting” proposals to curb buybacks and dividend payouts in the UK.

Biden’s ‘Buffett rule’

Now, Bill Gates is joining the global call to rein in buybacks. In a panel with Warren Buffett, the Buffett rule, introduced by former US Vice President Joe Biden, would increase the limit on how much a company could pay out in buybacks if they were paying less than 25% of their earnings in dividends.

Gates added his voice to the debate in a blog post on the Microsoft corporation’s website. The company paid out $26.7 billion in the last quarter.

Hitting corporate America

“In the coming year, corporate balance sheets could become even more stretched and investors will no doubt face increasingly complex choices on which stocks to buy and which to avoid,” Gates wrote.

“Our tax and investment laws could become even more of a target for investors to punish companies that don’t return profits to them by means other than dividend payments and buybacks.”

Whatever happen, because of changes in the US, other countries will be watching to see how much political capital companies put into repatriating their cash holdings as a result of tax changes.

The revenue left over from these repatriations is expected to be only $117 billion, according to estimates, and that is already expected to generate less than the current global demand of about $300 billion.

Leave a Comment