- Corporate tax cuts are not growth catalysts.
- The "Amazon tax" will affect small businesses and lead to high unemployment rate.
- This can happen as companies invest in financial engineering over growth, giving Amazon an extra advantage.
In a recent article, the author stated that the "Amazon tax", which Amazon (NASDAQ:AMZN) may be forced to collect in all 50 states will reduce Amazon's pricing advantage. This is because, currently, online retailers like Amazon are not required to collect sales taxes in states where they do not have physical stores. Thus, this tax will increase the number of states where Amazon collects taxes, from 23 states to all 50 states. Amazon would have to transfer some of this cost to consumers and thereby increasing prices. Will the "Amazon tax" happen then? Here's how this may impact AMZN stock.
The "Amazon tax": The unemployment rate, mobile e-commerce & laziness
The above-quoted article also points to a report by Amazon CEO Jeff Bezos owned Washington Post. The report estimates that the "Amazon tax" might cut spending on Amazon.com by as much as 12% upon implementation.
But there is an important demography this tax will impact, which will make the policy less likely to come to life. According to Forrester Research, 28% of small businesses in the U.S. are selling online. This 28% is important because Trump would want to keep the unemployment low. He does not want to put small firms out of business. According to the National Bureau of Economic Research report, "firm start-ups account for only 3 percent of employment but almost 20 percent of gross job creation." This means that the "Amazon tax" might cause more unemployment, as small businesses become less competitive.
In addition, according to Forrester Research;
- 80% of people use the internet to buy online. The 80% buy rate is attributed to the increase in trust levels for online shopping.
- 71% of people believe that they will get better prices online. This might be because online retailers do not incur the same brick-and-mortar costs and thus are expected to be better priced.
These statistics serve to show that the impact of the "Amazon tax" on online retailers might not be as severe as anticipated. 80% of people who shop online are less likely to stop buying online because Amazon will start collecting sales taxes in 27 more states within the U.S.
Furthermore, there are two other factors that we should consider:
- Catalysts like the surge in mobile e-commerce are expected to offset the "Amazon tax" headwind, if at all it is implemented. According to the same Forrester research, mobile e-commerce is expected to increase by 21.3% by 2017, rising from $1.5 trillion in 2013 to $3.2 trillion in 2017. This means that e-commerce is still an attractive sector to invest in and Amazon dominates this space.
- Busy, laziness, home delivery and efficiency: Most people are busy with their work, school or social life. They would pay extra to have someone help them better budget their time. For example, companies like GrubHub have thrived on this idea and the idea is people sometimes just like to be lazy. Besides, online shopping, especially on online retailers like Amazon, gives you the ability to shop for everything in one place - an advantage brick-and-mortar stores cannot match.
These tailwinds will still ensure that Amazon has a net positive growth rate moving forward.
Tale of Increased Buybacks, Unnecessary Dividend Hikes and Over-priced M&A Activities
Trump wants to cut corporate taxes. Creating excess cash for companies. But excess cash has never proved to benefit the economy. This is because money is invested in financial engineering and not growth.
In a Harvard Business Review article entitled, "Profits Without Prosperity", the author outlines how corporate profits have been booming since the great depression and yet most Americans are not benefiting in the recovery. The article blames most of this discrepancy to stock buybacks. Between 2003 and 2012, 449 public listed companies in the S&P 500 index used "54% of their earnings - a total of $2.4 trillion - to buy back their own stock." With almost all their purchases being in the open market.
In addition, dividends absorbed an additional 37% of the 449 companies' earnings. This means that companies are not investing in growth. This lack of investments in productive capabilities or higher incomes for employees means that cutting taxes does not, in any way, guarantee growth.
So what do you think will happen when Trump cuts the corporate tax?
Once the corporate tax cut is implemented, most companies will shield away from investing in the future growth of their companies and instead use financial engineering (buybacks, dividends) to boost short-term investor confidence in their stock.
Another problem that will emanate from a corporate tax cut is over-priced M&A activities. This will happen because multiples will surge overnight. A tax cut will artificially increase margins and EPS. This will suddenly make overvalued companies seem fair valued and unprofitable companies profitable. Thus, a wave of M&A activities that might follow is unlikely to yield substantial growth for companies. In the short-term, these will enhance investor appetite in the stock market. But long-term, this creates a bubble as over-priced assets are hard to be lucrative long-term.
The difference between innovative giants like Amazon and competitors is that Amazon has planned areas where it can immediately put cash to work.
The Corporate tax cut is not a growth catalyst. It is only advantageous to companies with projects that have positive Net Present Value ("NPV"). Amazon happens to be one of these companies. Amazon has increased its CAPEX from $216 million in 2006 to $6.04 billion as of FY 2015 end.
But what differentiates Amazon, is its ability to reduce its variable and fixed costs over the years. Amazon's gross margins have increased from 22.9% in 2006 to 34.6% in 2015. Meaning that if exposed to the same headwinds as competitors, Amazon's stock price would still be an attractive buying opportunity. Hence, the reason why the current sell-off in Amazon's stock price might be a buying opportunity.
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