When investors talk about risk, they are usually thinking about unexpected developments that could hurt the stock prices of companies they have invested in. For example, an Apple (NASDAQ:AAPL) investor might worry about the risk that competition might finally erode the company's pricing power in the smartphone market.
But risk goes both ways. In addition to the downside risks that are frequently discussed, there can also be "upside risk" from unexpected good news. In the case of Apple, corporate tax reform represents a significant source of upside risk, as it could enable the company to take its capital return program to the next level by freeing up offshore cash.
Apple's cash "problem"
In the past five years or so, Apple's cash holdings have swelled to historic proportions. At the end of the company's 2010 fiscal year, it had $51.0 billion in cash and investments on its balance sheet. But by the end of last quarter, it had a stunning $231.5 billion stockpile of cash and investments.
Even after deducting its debt obligations, Apple has a formidable net cash hoard of $146.6 billion. It doesn't need to keep this much cash around. The only reason it has allowed its cash balance to reach such an absurd level is that most of the cash is officially held outside the U.S.
Indeed, Apple recently reported that $214.9 billion of its $231.5 billion in cash and investments -- approximately 93% -- is held by foreign subsidiaries. It would have to pay federal taxes of up to 35% to repatriate that money. Instead, it has been holding the cash abroad, where it earns a pitiful amount of interest income.
Tax reform could be a game changer
CEO Tim Cook has been vocal in advocating for corporate tax reform that would allow Apple to bring this cash home at a lower tax rate. He has said that Apple would be happy to pay somewhat more than it already does in federal taxes if that would allow it to freely move cash between other countries and the United States.
There have been several tax reform proposals in recent years that would have either permanently lowered repatriation taxes or instituted a one-time repatriation tax holiday with a lower rate. Unfortunately, all of them have died in the midst of congressional gridlock.
However, the upcoming 2016 election could give the winning presidential candidate the political momentum necessary to implement corporate tax reform. Donald Trump has made a specific proposal to offer a reduced 10% repatriation tax to encourage U.S. companies to bring their cash home.
Moderate Democrats (including President Obama) have also supported a reduced repatriation tax rate recently. This suggests that Hillary Clinton might introduce similar corporate tax reform legislation if she is elected.
What it's worth to Apple
If Apple were able to repatriate its foreign earnings at a low 10% tax rate, it would be able to bring home $193.4 billion after taxes. If the repatriation tax rate were instead 20%, Apple would still have $171.9 billion after paying its tax bill.
Even at the higher 20% rate, Apple would be able to repatriate enough cash to pay off its entire $84.9 billion debt burden (if it wanted to) and have $87 billion left to return to shareholders. That would be enough to buy back about 15% of Apple's outstanding shares -- or alternatively, to pay a special dividend of about $16 per share.
By contrast, Apple is getting little or no credit for its overseas cash now, with shares currently trading for less than 12 times forward earnings.
Corporate tax reform thus represents a significant source of upside risk for Apple stock. If Apple is allowed to bring all of its overseas cash home while paying a repatriation tax rate of 10%-20%, it could potentially boost the value of its stock by 10% or more.