The Tax Cuts and Jobs Act (TCJA) enacted in December 2017 will limit the deductibility of business interest expense to 30% of adjusted taxable income (ATI) beginning in 2022. This article uses earnings before interest and taxes (EBIT) as a proxy for ATI to examines how this bill will have an asymmetric impact on taxes, earnings, and cash flow from operations (CFO) of firms with interest coverage ratios (ICR) that are at or marginally above 3.33. Equity analysts will need to consider the higher volatility in estimated taxes paid in the future when using discounted Free Cash Flow (FCF) to value a firm’s equity. Issuing debt becomes less attractive with implications for the capital structure of the firm, bond ratings and use of leverage for growth, share repurchase or dividend payout. Firms with substantial interest deduction carryforwards because of inadequate EBIT, might want to sell or merge with firms with high ICRs that can take advantage of the unused interest deduction carryforwards. Firms attempting to reduce leverage might rollover maturing debt with qualified preferred stock issues.
Muma College of Business at the University of South Florida
Murad Antia is a senior instructor at the Muma College of Business at the University of South Florida, Tampa. He teaches financial statement analysis and works with some of the college's top scholars. He has received the Outstanding Research Award for Instructors for...
University of South Florida
Arun Tandon is an instructor in the Kate Tiedemann School of Business and Finance at the MUMA College of Business. He teaches the capstone course both at the undergraduate and graduate level. His teaching experience includes courses in Investments, Corporate Finance...
Giving Shareholders Real Rights, Reducing Excessive Executive Pay, and Reducing One‐Size‐Fits‐All Regulation
by Dan Palmon, Gary Kleinman, Ann F. Medinets
This paper questions the effectiveness of shareholders’ protection from managers who may make choices contrary to the shareholders’ interests. We focus on...
Learning from the Failure of the EU Payment Services Directive (PSD2): When Imposed Innovation Does Not Change the Status Quo
by Amir Bahman Radnejad, Oleksiy Osiyevskyy, Olivia Scheibel
By studying the implication of PSD2 and its effect on the EU banking industry, for the first time, we provide practical suggestions for how to improve the...