Even by the charmed standards of the technology sector, the recent Covid-19 pandemic has been akin to ascending to the seventh heaven. While the rest of the global economy languished from global lockdown, Big Tech prospered as life migrated online. Already roaring before the pandemic, tech stocks reached their crescendo during the pandemic as the S&P 500 IT sector gained 43.89% on the year — the most of any sector.
Unfortunately, this success has provoked the scrutiny of governments worldwide, with states fearing the implications of Big Tech growing too big for its boots. Already, governments from Washington to Beijing have asked questions of Big Tech’s market dominance and raised concerns about its commitment to protecting user privacy and combatting fake news. Now, with BEPS 2.0 aimed squarely at the sector, many are asking questions about its tax liability too.
According to Bloomberg Economics, Facebook and Amazon paid 12.2% and 11.8% in taxes respectively in 2020, which was below the 17.4% median tax rate that the world’s top 50 firms paid last year. Nvidia Corp paid just 1.7% in effective taxes, admitting that this was mainly due to income earned in low-tax jurisdictions like Hong Kong, Israel and the British Virgin Islands. The lowest tax rate was paid by California-based Trimble Inc at just 1.1%.
“You’d expect to see tech firms facing a higher average tax rate, so probably therefore also having lower stock market valuations,” says Baptist of EIU. Ling of OCBC is concerned too, noting that investors may have to reassess investment destinations to factor in potential tax changes. Ajay Kumar Sanganeria, head of tax at KPMG Singapore, warns that with more of a firm’s profits being diverted to tax, dividend payouts to investors could also also be affected.
But with a deal still far off, Reuters notes that tech stocks barely responded to the G7’s agreement: Shares of Apple, Amazon and Google-parent Alphabet fell 0.2% to 0.5%, while Facebook was up 0.1% and Microsoft rose 0.6%. Even with a tax, investment bank Goldman Sachs found that earnings would only see a 1%–2% decline from consensus estimates for 2022. While low tax industries like tech and pharma may be worse hit, per-share earnings are seen to decline by less than 5%.
Lombard Odier Asia-Pacific chief investment officer Jean-Louis Nakamura does not anticipate any severe long-term impact on investment in the technology sector. “I think [the tax] might make some markets slightly more nervous about this but by itself, at this stage, a 15% global minimum tax is not high enough to change the business perspective for even the large tech platforms,” he tells The Edge Singapore.
Some tech giants have actually made a show of welcoming the G7 proposal. “We want the international tax reform process to succeed and recognise this could mean Facebook paying more tax, and in different places,” tweeted Nick Clegg, former UK deputy prime minister and current Facebook vice-president of global affairs. Amazon told CNBC that it welcomed the proposal too, despite treasury secretary Yellen identifying both Amazon and Facebook as targets of BEPS 2.0.
While seemingly akin to turkeys voting for Christmas, tech firms actually prefer BEPS 2.0 to the alternatives. The proposal calls for the removal of a “digital services tax” levied in the EU and elsewhere, which is levied on gross revenue streams rather than profits. Wharton Business School professor Jennifer Blouin told the Wharton Business Daily radio show that Big Tech prefers a tax on profits as it is seen as at least being more certain than a revenue tax.
It is for this reason that Singapore has decided to get behind Pillar One of BEPS 2.0. Finance Minister Wong explained to parliament that it is not in Singapore’s interest to have a fragmented tax system where other jurisdictions can impose digital services taxes unilaterally. He sees BEPS 2.0 giving businesses a simpler single set of tax rules to comply with rather than a patchwork of fragmented rules.
According to Ajay, digital service taxes tend to be unilateral measures, which could raise issues of double taxation since firms may not be able to claim foreign tax rates in their home jurisdictions. Paying a tax on profit is more equitable than being taxed on gross revenue since one is only liable if one actually turns a profit and the quantum for the former is lower. Different digital service tax rates between countries also creates uncertainty for MNEs.
Minimum tax notwithstanding Nakamura remains constructive on investing in technology. Even in spite of a growing desire by governments to tax and regulate technology companies, their network-based business model will continue to be “far superior” in terms of profitability compared to traditional business models. Even regulations demanding that firms pay users for using their data are seen to only have a marginal impact over the next 10 years.
Relying on network effects, says Nakamura, firms need to accumulate as many users as possible to compete, thus expanding to a great size. It is difficult for governments to prevent this from taking place by breaking up tech businesses, given that this would be destroying the fundamental business model of technology firms. Nakamura sees the existing model of exchanging free usage of web services for data flourishing for at least the next two decades.
“The same kind of voters who are supporting the Democrats’ agenda in the US to fight against the power of tech monopolies are the same people ... who want to continue to use web services for free,” says Nakamura ironically. He highlights the more youthful and tech-savvy nature of the Democratic Party’s voter base. Governments, he says, will have to content themselves with extracting the profits of technology firms and redistributing it to the rest of society.
Nakamura is also constructive on attractively valued Chinese tech stocks despite debate on how long Beijing’s regulatory action on technology will last. “I believe that, yes, Chinese tech stocks will make a strong comeback,” he tells The Edge Singapore, noting that the tech plays exposed to clean energy transition, in particular, have seen a strong 2Q2021.
If the People’s Bank of China and regulators take a more accommodative stance as recovery growth begins to slow in 2H2021, Chinese markets are seen to significantly outperform.
