By Jacob Sonenshine
One of Trump's less talked about policy proposals focuses on companies' spending on research and development. Select companies could see significant increases to cash flow.
This policy tweak would enable U.S. firms to record all of their domestic research and development expense immediately as they spend those dollars. Since 2022, they have had to amortize their R&D spend over five years. For example, $100 of R&D investment would show up as $20 of expenses each year for five years. With this change, companies would record the full amount at the time that they spend it, so their reported earnings go down, sending their tax bills down.
This increases operating cash flow. The cash that companies spent on R&D didn't actually change, but the cash they paid in taxes dropped.
The idea, for Trump's agenda, is that companies will move more of their R&D spending to the U.S. The resulting boost to cash flow could spur them to invest more in their businesses, though of course they could instead pocket the money, pay down debt or buy back stock. Either way, the policy is another business-friendly one, and investors should be cognizant of the fact that dozens of companies will see a major increase in cash flow if the policy materializes.
The downside is that this reduces the government's income at a time when it has been spending historically large sums of money, but the market will focus on the positive impact to companies' financials first.
That's why Wolfe Research's chief investment strategist Chris Senyek screened for the companies that would benefit the most. He finds dozens of companies that would see operating cash flow go up considerably because their R&D spend as a percentage of their sales is high. As they expense more R&D, they will see large tax reductions.
Senyek looked at these firms' average annual U.S. R&D spend in the past five years and then showed the amount they would save on their tax bill as they expense the R&D immediately. That allows Senyek to show the potential increase in 2025 operating cash flow from analyst's consensus estimates today.
Among the companies, the largest sector representations are healthcare, as pharmaceuticals have to invest heavily in R&D to develop new drugs, and technology, a sector that's constantly innovating. A few stocks on the screen are Meta Platforms, PayPal, Zoom Video Communications, Gilead Sciences, Merck and Biogen.
They would all see 2% to 20% increases in next year's operating cash flow. Not all of their R&D spend happens in the U.S. Senyek uses those companies' U.S. sales as a percent of total revenue to show roughly how much of their R&D happens at home. That gives investors an idea of their U.S. spending, but it won't be fully accurate, says Robert Willens, tax and accounting expert. Ultimately, Willens says, taxation authorities would need to see how much of these companies' payments for research actually happened in the U.S.
Electronic Arts is on the list, too. It has averaged $2.1 billion in annual R&D in the past five years, about a third of its $6.6 billion in average annual sales over that period. Not all of the spend happens in the U.S., so Senyek estimates the reduced tax bill next year would amount to just over $100 million.
That translates into a 10% increase to next year's operating cash flow, which analysts expect will come out to just over $2 billion.
Lyft is probably the largest potential beneficiary. Since it sees all of its sales at home, it probably spends most or all of its R&D budget in the U.S. That budget has averaged $728 million a year recently, about a fifth of its average of $3.5 billion in revenue a year.
That translates into about $153 million in tax savings next year, which would boost expected operating cash flow of a few hundred million dollars by more than 40%, Senyek says.
These stocks could jump if Trump makes headway in moving this policy through Congress.
Write to Jacob Sonenshine at jacob.sonenshine@barrons.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
(END) Dow Jones Newswires
December 04, 2024 02:00 ET (07:00 GMT)
Copyright (c) 2024 Dow Jones & Company, Inc.
Comments