Breaking Down the Tax Cuts and Jobs Act: The Challenges for M&A

Congress recently passed the Tax Cuts and Jobs Act which had many people wondering what will this mean for the industry. Overall, William Blair believes a lot of positives will come out of this, but that doesn’t mean we won’t face some hurdles.

From 2018 through 2021, company’s deductions for interest income are limited to 30% of EBITDA and after that point the limit becomes more restrictive, applying to 30% of EBIT. The limited is expected to have an impact on financial sponsors’ after-tax cost of capital in high-leverage and high-multiple transactions. We could see this factoring buyers decisions on financing structures.

The value of any net operating losses (NOLs) has typically been a factor in the price a buyer is willing to pay. Now, with NOLs deductions being limited, they will become less valuable to buyers, and going forward, buyers and sellers will have to put more thought into the value of NOLs.

Lastly, the minimum holding period for carried interest has been increased from one year to three years. Typically, financial sponsors hold onto portfolio companies for more than three years but in sectors such as healthcare and technology, a period of fewer than three years is seen more frequently. It will be interesting to see how this will affect financial sponsors decision on when to sell a company.

Despite a few challenges, we at William Blair believe overall the tax reform will have a positive effect on M&A. See the last post breaking down the opportunities for the industry.

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