- The Washington Times - Sunday, May 18, 2014

American corporations seem to be doing just about everything with their record $1.53 trillion in cash holdings except using it to invest and hire in the United States, even though the sluggish economy could use the boost.

Three-quarters of that corporate cash pile was earned overseas and is being held outside the country to avoid the top U.S. corporate tax rate of 35 percent, according to a study by Standard & Poor’s Corp. It remains the highest rate in the developed world despite tax reform pledges by leaders of both major U.S. political parties.

Those guarding the mountains of overseas cash include some of the best-known names in American business, including General Motors Co., General Electric Co., Apple Inc. and Google Inc.

While many companies are simply reinvesting the cash in their operations in China and other overseas markets that have been growing faster than their U.S. operations, others are using it to acquire foreign companies. A majority appear to be using the cash as collateral to borrow funds in the U.S. to finance generous stock buyback and dividend programs for their shareholders. Only a small fraction of the money is being used to increase hiring, wages and business expansion in the U.S.

Factors contributing to the unprecedented overseas cash balances include tax avoidance, easy credit conditions and booming overseas sales.

Several deals recently highlighted the extreme measures companies are prepared to take to avoid paying U.S. taxes. Drug giant Pfizer this month announced that it would deploy some of its $39 billion overseas cash hoard in a $200 billion bid to purchase Britain’s AstraZeneca PLC, with the goal of eventually relocating its headquarters to London so it no longer has to worry about paying U.S. taxes on its earnings.

Apple, which has the largest overseas cash trove by far at $132 billion, is one of the many corporations that, rather than dip into its cash and take a tax hit, took out debt instead to fund a big stock buyback and dividend program. The move was spurred by Carl C. Icahn and other activist investors frustrated at their inability to get their hands on some of the company’s far-flung cash.

Borrowing to buy stock

Among the 80 percent of blue chip companies listed in the Standard & Poor’s 500 index that conducted major stock buyback programs last year — often after borrowing the money as Apple did — were Ford Motor Co., Boeing Co., Caterpillar Inc., Cisco Systems Inc., 3M Co., Microsoft Corp., Safeway Inc., and Travelers Cos.

“Shareholders are pushing for the return of this cash,” S&P analyst Andrew Chang said.

Apple and other corporations are unwilling to repatriate the money and pay high U.S. taxes on it, so they are borrowing money instead to satisfy investors, Mr. Chang said. He predicted that the trend would accelerate this year.

Corporations get a double tax advantage if they borrow money to pay stockholders rather than dip into their cash. They can avoid giving a third of their earnings to the federal government, and the interest on their debt becomes a tax-deductible business “expense.”

Moreover, interest rates on the debt are some of the lowest on record, thanks to the Federal Reserve, which for the past five years has been trying to boost U.S. economic growth by purchasing more than $3 trillion of the most conservative bond investments: U.S. Treasurys and mortgage-backed securities. The Fed’s dominance of those traditional markets has driven private investors into corporate debt and riskier markets as they seek higher returns than the rock-bottom yields on Treasury bonds.

Investors’ thirst for higher-yielding corporate debt has resulted in a borrowing binge. Corporations are taking out nearly $4 in loans for every $1 in cash they earned in recent years, according to S&P.

Some say the borrowing spree borders on a credit market bubble that is feeding stocks because much of the debt is used to repurchase the companies’ own shares.

Few take the tax hit

In a survey last month of corporations with large cash holdings overseas, researchers at the British bank Barclays PLC found that only a small number of companies were repatriating their cash earnings for use in the U.S.

EBay reported recently that it is bringing home $9 billion in cash to pursue “growing opportunities in the U.S.” The online auction giant also said it is making provisions for higher taxes on foreign earnings in the future as it transfers a higher proportion of its cash back to the U.S.

Barclays found that companies like eBay, whose competitors are mainly in the U.S., are more likely to bring home their cash than companies like Apple and Pfizer, whose competitors reside mainly in other countries. Companies with mainly foreign competitors are more likely to spend their cash expanding and acquiring assets overseas, the survey found.

Of all the companies with large overseas cash hoards, Xilinx Inc., NetApp Inc., Western Union Co. and EMC Corp. are the most likely to repatriate their money and pay taxes so they can use the funds in the American market, Barclays said.

S&P’s Mr. Chang said that, despite all the corporate machinations aimed at minimizing taxes and maximizing profits, the pileup of so much cash overseas seems to have been inadvertent for most corporations.

“We believe most of these [corporations] did not intend to have such a large cash pile sitting on the sidelines. If given the choice, most would prefer to repatriate the cash and limit debt issuance,” he said.

Although Congress and the Obama administration have failed to reach an agreement on lowering tax rates, Mr. Chang pins as much blame for the borrowing binge on the Federal Reserve.

“In our view, the availability of cheap debt has been most responsible for the record cash balances,” as it has simply made more economic sense for companies to borrow rather than spend down their cash, he said.

“Without access to the accommodating credit markets, companies would likely not have provided the returns that shareholders have become accustomed to in recent years,” Mr. Chang said, voicing the widespread view that investors in stocks and bonds — rather than workers and Main Street businesses — have been the main beneficiaries of the cash-backed borrowing binge.

Hiring drought continues

Whatever the reasons driving the trend, economists and business leaders from Wall Street to Main Street have been decrying the drought of investment by U.S. businesses in expanding plants, upgrading equipment, and hiring and giving raises to workers, even though many of these corporations are flush with cash and increasingly burdened with debt.

Historically, businesses have devoted larger shares of their profits to improving their businesses. Even some prominent investors who have benefited from the stock-buying trend have raised alarm about corporations no longer making investments that produce long-term growth in their companies, not just short-term fillips in their stocks.

“Too many companies have cut capital expenditures and even increased debt to boost dividends and increase share buybacks,” Larry Fink, chairman of BlackRock, which manages $4.3 trillion in investments, said in a letter to the chief executives of the world’s 600 largest corporations. He said this practice can “jeopardize a company’s ability to generate sustainable long-term returns.”

With corporate profits at the end of last year hitting a record high 11 percent of economic output even as middle-class wages stagnate, Jerry Jasinowski, former president of the National Association of Manufacturers, said corporate America is starting to look like Disney’s stingy character Scrooge McDuck.

“Our biggest corporations have been sitting on a lot of money for many years, and it is not a transitory phenomenon. That fabled money bin just keeps growing,” while companies listed in the S&P 500 index have been increasing investment in their businesses by only 0.8 percent a year, he said.

“Instead of launching new products and identifying new markets, they have become obsessed with controlling costs and financial transactions,” he said. “Companies have become notoriously reluctant to hire and slow to raise compensation for those not in the front office. This is causing hardship for many people — inflation has outpaced wage gains for the past five years — and is undermining the economy that these businesses depend upon for their big profits.”

Frustration in Congress

Frustration over the persistent tax avoidance and business’ hoarding practices is growing in Washington. For several years, President Obama and Republican leaders have advocated reforming the tax code to reduce the top corporate rate to 25 percent to 30 percent, eliminating or paring back loopholes such as business depreciation and expense deductions.

Mr. Obama has proposed tackling the corporate tax code as part of a broader campaign to curb the budget deficit, while Republicans want broader tax reforms that encompass both corporate and individual taxes.

The stalemate blocked most reform efforts this year, although new Senate Finance Committee Chairman Ron Wyden, Oregon Democrat, recently outlined his ideas about tax reform for the first time.

Short of overhauling the tax code, a growing number of legislators advocate another tax “holiday” like one enacted in 2004 that would temporarily lower the rates paid on repatriated cash as an inducement to get corporations to bring money back home. In his highway reauthorization bill submitted last month, Mr. Obama proposed using such a tax holiday as one way of paying for roads and bridges.

The holiday likely would provoke a “mad rush of repatriation,” and no doubt would be successful at temporarily filling federal coffers with a gusher of one-time tax payments, said Mr. Chang, but the money more likely would continue to be spent enriching shareholders rather than increasing hiring and business expansion in the U.S.

If Congress’ goal is to induce businesses to create jobs, a tax holiday will not do the trick, said Curtis S. Dubay, an analyst at the Heritage Foundation. The 2004 holiday prompted businesses to bring $362 billion back home, but most of them spent the money on dividends, share buybacks and acquisitions.

The 2004 holiday had a “negligible” impact on jobs, he said. To the extent the funds were used for corporate acquisitions, in fact, they may have helped cut jobs as merging companies eliminated overlapping functions.

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