U.S. multinationals have had a busy year identifying, concentrating and ultimately wiring back the retained earnings that have been piling up in foreign subsidiaries. Thanks to the American Jobs Creation Act and its promised tax rate of 5.25% on repatriated funds, hundreds of billions of dollars have been flowing into corporate coffers. But many, if not most, companies are already nicely flush, sitting on respectable hoards of cash from cost cutting, divestitures and operating profits.
As obscene as it may sound, the question is: Is more cash always better? The answer is probably yes, but it is certainly not easier for treasurers looking for a good return.
While no one would ever imply that negotiating the intricacies of repatriation is a snap, the reality is that the biggest problem facing treasurers today is not when and how to get the money home, but what to do with it once it's there. Admittedly, short-term rates have improved recently, thanks to the Federal Reserve, but cash remains a major drag on bottom lines for companies that are earning well. Moreover, as businesses learned the hard way in the 1980s, accumulating too much cash can quickly convert a company into a prime takeover target. "Cash is a wonderful thing to have," notes David O'Brien, assistant treasurer of EDS Corp. in Plano, Texas, "but when it's yielding 3.5% pretax, then it's also a burden. That is not a viable return on a large asset. If a corporation can't do better than that, it should liquidate itself and give all the money back to shareholders."
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So what are companies doing with it all? When Congress enacted the law, the stated intent was not to hand companies a tax gift without attaching a few strings. The goal is evident in the name: The American Jobs Creation Act was meant to create jobs in the U.S., and companies were required to file reinvestment plans with the Internal Revenue Service and get them approved. "There are a lot of attractive uses for repatriated cash," insists James Haddad, vice president of finance at Cadence Design Systems Inc., a technology company in San Jose, Calif. "We can use it for the hiring, training and retention of employees. We can use it for qualified R&D. We can use it for capital expenditures. We can use it to strengthen the balance sheet through debt repayment. We can use it for some acquisitions. What we can't use it for is executive comp or share repurchases. But Intel Corp. has announced that it will build a new plant. That wouldn't have happened without repatriation." Even so, congressional mandates on the uses of repatriated funds are having little practical effect, at least in the short run. Repatriated cash is not segregated, but goes into a general pool. Companies have four years to show that it was used appropriately. Most companies are spending repatriated cash for whatever they like, says Shawn Carson, international tax partner at BDO Seidman LLP. "You can use repatriated funds to meet payroll and then use the funds you would have used for payroll for stock buybacks or executive comp," he points out. Intel aside, Carson says he has not seen many companies "calculate their repatriation and then announce that they are building a new plant or hiring more people."
Some executives agree. "Is it any coincidence that the same companies that have announced large repatriation dividends are also doing substantial equity buybacks, which is not an approved use?" O'Brien asks rhetorically. He points out that repatriated funds can be used immediately for purposes that are off-limits in the long run. Perhaps this is why so many companies have gone the repatriation route, despite its complexities and the dearth of attractive short-term investments. Citigroup kept track as corporations announced decisions to declare or not declare a repatriation dividend. At one point last November, 151 of the 167 that had declared were in fact repatriating. Just 16, including General Electric, Avon and Gap, were not, reports Elyse Weiner, managing director and head of global liquidity and investment management in Citigroup's Global Transaction Services unit. "We've seen a ton of activity across all industries," notes Matt Annenberg, head of the financial markets advisory group for North America at ABN Amro Bank. "The only companies we've spoken to with substantial unrepatriated earnings that are not bringing them back are those that are expanding aggressively offshore."
In that regard, repatriation forced companies to re-evaluate their business strategies and set expansion priorities, at least on a geographic basis. As ABN Amro's Annenberg puts it, "there's no reason to repatriate [earnings], pay an additional 5.25% tax and be limited to certain domestic uses of the cash when what you want to do is spend the money overseas."
That decision had to be made in 2005, according to the law. Given the lack of precedents and initial IRS guidance, companies held back. "[Most] analyzed for the first half, got ready in the third quarter and took action in the fourth," reports Keith Rofrano, senior vice president and co-head of FX distribution at Chicago-based LaSalle Bank.
Plotting a shrewd repatriation strategy also required substantial coordination among three functions that don't always play well together–tax, treasury and corporate finance. Strategy was tax-driven, so tax generally took the lead and did its work first. Then, it was up to corporate finance to plot how the repatriation would impact capital structure. Finally, treasury had to weigh in on how it would affect liquidity management.
Strategizing was simpler at a company like Cadence Design. Here, tax, treasury and corporate finance all report to VP Haddad. "Coordination is essential," Haddad reports. "Tax was necessarily deliberate in analyzing the situation. If the effort is not coordinated, tax can take so much time that once treasury gets its marching orders, it has barely enough time to mobilize cash in the foreign subs so that it is available to repatriate." Cadence has $500 million in retained earnings offshore that it expects to repatriate, Haddad reports.
PACING IN THE WAITING ROOM
During these delays, nervous treasury teams watched the dollar strengthen, which meant that the cash in euros, pounds and other currencies that they wanted to repatriate became less valuable. "We urged clients to consider hedging, but very few did," ABN Amro's Annenberg reports. "There was a real opportunity cost to delaying since the dollar strengthened during the year. Before boards voted and dividends were declared, back-and-forth communication between tax and treasury took time. Nobody wanted to overhedge. And some had doubts that such hedges would get favorable accounting treatment as net investment hedges, although everything we've seen indicates that they do qualify."
Some forward-looking companies put in place anticipatory hedges before their boards had even approved dividends, Rofrano notes. "Companies could have put net investment hedges in place before the board vote and then converted them to fair-value hedges upon declaration of the dividends," he explains. But the surge in FX trading came late, not early, with a lot of short-dated options linked to repatriation in the fourth quarter, Rofrano reports. "Options afforded a potential benefit if the dollar depreciated late in the year," he explains.
While some companies are using repatriated funds immediately, more are moving slowly. "Companies have up to three years to use up to 60% of it, so spending decisions are being made carefully," Annenberg reports.
Even if funds won't be spent for a year or two, there's little incentive to go long with the yield curve so flat, explains Bill Daniels, senior vice president and manager of training and sales for Mellon Financial Markets. The cash is going into things like auction-rate securities, which normally trade at a premium of 15 to 25 basis points over similarly rated commercial paper, but all the buying has pushed the spread down to five to 10 points, he reports. With the Fed raising short-term rates, you'd expect money to be flowing out of corporate money funds, Daniels notes, but in fact they're growing. "A lot of companies are parking their money there, in spite of the lag in yield," he observes.
There also is debate over what the overall economic impact from repatriation will be. Some financial experts discount its inflationary potential. "If this inflow was assumed to be 'new' money to the U.S. money supply, then in pure economic terms, it could be one of the causes of rising inflation," notes Nikhil Ratnam, vice president of liquidity management for the New York-based cash management unit of Deutsche Bank. "However, the market has already anticipated the increased flow of funds." Others are more concerned. BDO Seidman's Carson notes that there could be significant repercussions on financial markets, particularly in Europe, given the surge in debt overseas to fund these dividends and the commensurate shrinkage of credit needs in this country as money is brought home. Says EDS' O'Brien: "This is a watershed event, and the consequences haven't been adequately understood."
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