The following is a guest post from Cecilia Lynch, the founder and CEO of Focused Momentum, a strategic planning services consultancy.
On the surface, the changes in the new tax law look pretty straightforward for corporations – the corporate income tax rate will drop from 35 per cent to 21 per cent. Very clear, US businesses have more money, immediately. But if you look deeper, just below the surface, you can see the many other ripples that could eventually turn into a tidal wave of change.
Here, on the California coast, we teach our children “Never turn your back on the ocean,” and I believe the new tax law is a disruption large enough to trigger massive movements that will require new and constant vigilance.
The ripple begins
The first wave breaking the surface is, of course, due to the cut in current year taxes. Businesses now have more funds at their disposal from operations this year that they would not have been able to plan for when they wrapped up budgeting at the end of 2017. Current year financial assumptions have changed, favorably.
The next and potentially larger upsurge is because this is a permanent cut and it is across many categories of income, including the tax on bringing overseas profits back into the United States. Reserves set aside on the balance sheet for future tax obligations and cash balances from foreign lines of business are now a new source of funds.
All of these changes accelerate the impact of the tax cuts in 2018 and bring the effective tax rate to nine per cent as estimated by UPenn Wharton. Now that is a big swell!
How will corporations use their tax savings and what impact will those investments have on other aspects of our economy?
The potential for a large swell is real
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Which will be more significant? The cut in the corporate income tax rate on US operations OR the influx of profits from overseas operations now moving into the US for use? Both are big. Estimates are that more than 2.6 trillion dollars were on US corporate balance sheets at the end of 2017 from foreign operations. In fact, five companies held more than a half a trillion of these cash stockpiles alone.
With the main barrier for repatriation significantly reduced, this massive source of funds is now available for use in the US market. Moreover, this adds to the already abundant pool of investment funds held by traditional investment sources, like those coming from the venture capital sector. In January, The Mercury News reported that venture funds are investing at rates not seen since the dot.com era in the 1990s.
These waves of savings and new sources of funds will bring high levels of investment to every market and put additional pressure on corporate management and investment firms to find creative new ways to use these funds. It will spur increased mergers and acquisitions activity. It will also increase research and development in markets seemingly ready for expansion. Additionally, we should see accelerated consolidations in fragmented markets as new partnerships are formed to compete in a hot space.
How will this new waves of investment impact in your business’ market?
One important step to is to prepare
There are many things that companies of every size can do to prepare for these changing tides. First, review the fundamental financial assumptions of your business model. This exploration should go beyond your tax rate to include an evaluation of your entire balance sheet. Second, define new strategies for increases in working capital. For instance, in the case of capital-intensive operations, this may mean that you can accelerate expansion plans. Alternatively, if your operation has been running very thin, now may be the time to add headcount, or increase your promotional budget.
Don’t wait! Do this planning now. It is impossible to know for sure what the full impact of this influx of capital will be, but it is time to stand up and pay close attention to the conditions in your environment. Do not be lulled into complacency because the sun is out, and the water looks calm. Change is coming, and we all need to stay vigilant to the inevitable shifts heading our way.
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