The Rising Tide of Corporate Tax Reform Will Lift All Boats? Not Exactly.

Travis King

Travis King, CFA

Co-Head of Investment Grade Credit

Anil Katarya

Anil Katarya, CFA

Co-Head of Investment Grade Credit

Corinne Krincek

Corinne Krincek, CFA

Credit Analyst, U.S. Credit

Most investors and market commentators expect tax reform to serve as a broad-based boon for corporate earnings and health. However, the four examples below highlight the disparate impact tax reform can have on fixed income investors and corporations.

  • IBM - Negative impact for the company
    • IBM stated that it believes that tax reform will have a positive impact on its business over the long term, however, it will create near-term headwinds. IBM generates the majority of its revenue outside of the U.S. Proportionately, the taxes the company will pay on its foreign earnings will more than offset the benefit from the lower tax rate on domestic earnings. As a result, the company expects its effect tax rate (before special items) to increase from 12% to 16% (+/- 2%).
  • Comcast - Negative impact for bondholders
    • Comcast had an effective tax rate of 35% - 37%. Tax reform is expected to lower this rate to 24% - 26%. The company expects to use the proceeds as an opportunity to issue a one-time bonus to employees of ~$200 million and to support higher dividends. However, the company’s comments on its leverage target are of more interest to bond holders. While Comcast could have used the tailwind of tax reform to reduce leverage from its current level of 2.2x to its stated target of 1.5x, the company announced a change in its financial strategy. The company now believes that its current 2.2x leverage ratio is an appropriate leverage level for the company given the improvements in its cash conversion ratios as a result of the tax reform.
  • Verizon - Positive impact for bondholders
    • Verizon expects tax reform will increase cash flow from operations by $3.5 -$4 billion. However, unlike Comcast, Verizon announced that it would use its improved cash flow from operations to reduce leverage at a faster pace than it had previously planned, a positive development for bondholders.
  • Intel - Neutral impact for bondholders
    • Intel’s effective tax rate is expected to drop to 14% from 20%. The company announced that it intends to allocate the new found cash to infrastructure spending and to support a higher dividend. From a bondholder’s perspective, the reallocation of cash will have minimal impact on Intel’s credit quality.

Insight gleaned from these recent earnings announcements suggests that the impact of tax reform will vary significantly across companies. For fixed income investors, this is yet another reminder that security selection will likely be the most important factor in determining investment success in 2018.

Past performance does not guarantee future results. 

This commentary has been prepared by Voya Investment Management for informational purposes. Nothing contained herein should be construed as (i) an offer to sell or solicitation of an offer to buy any security or (ii) a recommendation as to the advisability of investing in, purchasing or selling any security. Any opinions expressed herein reflect our judgment and are subject to change. Certain of the statements contained herein are statements of future expectations and other forward-looking statements that are based on management’s current views and assumptions and involve known and unknown risks and uncertainties that could cause actual results, performance or events to differ materially from those expressed or implied in such statements. Actual results, performance or events may differ materially from those in such statements due to, without limitation, (1) general economic conditions, (2) performance of financial markets, (3) changes in laws and regulations and (4) changes in the policies of governments and/or regulatory authorities. The opinions, views and information expressed in this commentary regarding holdings are subject to change without notice. The information provided regarding holdings is not a recommendation to buy or sell any security. Fund holdings are fluid and are subject to daily change based on market conditions and other factors.