Even though the new tax law cuts the federal corporate rate to 21% from 35% for retailers, the sector is hardly rejoicing.
Retailers have long lobbied for tax reform as they pay among the highest rates of corporate taxes, compared to 23% for pharmaceutical companies and 5% for internet software makers. But since the package was signed into law Dec. 22, retail companies and their investors alike have been hesitant to factor tax savings into guidance. Meanwhile, retail stocks are leveling. The S&P Retail index has, in fact, dipped in shares since the start of the year.
Kohl's Corporation (KSS) , for instance, announced in its holiday sales report and expectations for fiscal January, but disclaimed explicitly that its guidance does not include the"impact of recent changes in federal tax legislation," even though they are expected to benefit the tax rate and the deferred tax balances in 2017.
Wall Street's prudence, however, is wise. The tax law won't be, by any means, a remedy for e-commerce disruption. With the strongest players having the most to gain, competition could be even fiercer for those already struggling, sources say.
"Some of Wall Street is taking a wait-and-see approach," said Trip Miller, founder of the Memphis-based investment fund Gullane Capital Partners.
"Everyone is still talking to their tax lawyers and accountants, and no one wants to be the guinea pig that the IRS comes after, as the agency will certainly begin to challenge interpretations of these new tax laws" he told TheStreet Monday, Jan. 8.
Most immediately, the tax law puts more money in the hands of the consumer as tax withholding rates decline starting this month. As some have pointed out, high-earners will have the most to gain, while those in the middle and lower brackets will see minimal change.
What comes after will be murkier, experts say. Beyond the unforeseen balance sheets, stocks have leveled since the package was signed into law. In fact, retail stocks grew to a much greater degree in the months before the bill become law than after.
This is because the stock market reacted to the tax cuts months in anticipation, according to Eric Ervin, the CEO of asset management firm and ETF issuer Reality Shares. "The market was accounting for a 70% chance of tax cuts halfway through the year. After it passed, the market went up slightly higher, but since then it's been flat," he said.
In other words, the premium valuation from prospective tax benefits is already built into stock prices.
Reinvestment Is Key
UBS analyst Michael Lasser calculated in a Jan. 4 note that about 60% of earnings per share gain is factored into stock valuations right now. Since the beginning of November, the average retail stock increased 12% in value, but "have plateaued after the final passage of the bill," he wrote. "We believe investors are in a wait-and-watch mode as they try to gauge the potential upside still to be captured due to the reform."
The rest of the savings? According to Lasser, at least some retailers will put the extra cash toward business investments, while using the remaining portion to buy back stock. Business investment is the right move, Ervin said, considering the minimal effects of the tax cut — especially in context with the monumental shifts in consumer behavior that now disrupt the industry.
"We're huge fans of dividends here, but this would be a scenario for retailers to be a little bit more conservative and put that money toward operation efficiencies or advertising programs to increase revenues," he said. "The million-dollar question is still the same: can revenues continue to grow?"
For the answer, all eyes will be on first-quarter earnings in 2018.
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