California Disinvestment Accelerates

Tue, Jul 5, 2011 - 2:50pm

Poor California. The land of dreamin' in the '60s has awakened from a long slumber to find itself at the bottom of a dog pile of bummed-out karma. That the state is once again being steered by Gov. Jerry "Moonbeam" Brown is an irony not lost on the hopeful denizens of a once-great state looking for redemption. Yet, deliverance from the economic and regulatory sins of several past decades will not be easy.

The recent passage of a budget in California at the eleventh hour includes the usual mix of budget cuts, tax increases, and questionable accounting. It also places a heavy reliance on accurate tax revenue estimations that carry penalties should the state fail to meet them. The budget will ultimately stand or fall on the expectation by legislators that the state will capture $4 billion in tax collections beyond the previous estimate. If this wish upon a star does not come true, the budget will get whacked by another $2.6 billion.

A Bad Assumption

Missing from the entire budget process and estimation game is an examination of a crucial assumption: that the tax base will remain stable. That is, will the number of overburdened taxpayers and businesses that foot the bill for all the spending remain fairly constant? Evidence is mounting that the answer is "no."

I covered this question in previous articles that take a look at how a state should not be run. A synopsis of the theme would read:

Today, there are multiple combat lines being incised between a number of fiscal, economic, as well as ideological forces. Of all the various combatants, the U.S. states are emerging on the frontlines of the fight. And some of their tactics are encouragingly following free-market principles. Recent events suggest that a battle for tax revenue has commenced, pitting high-tax states against low-tax states.

Those "recent events" refer to falling - or a stunted rise in - state corporate-tax revenue and back-of-the-pack growth performance in gross state product, population, employment, and overall tax receipts in high-tax states such as California.

Another dog just landed on this pile of bad news courtesy of Joseph Vranich, publisher of The Business Relocation Coach blog out of Irvine, California and a consultant who tracks the movement of businesses. His latest research on California concludes:

Today, California is experiencing the fastest rate of disinvestment events based on public domain information, closure notices to the state, and information from affected employees in the three years since a specialized tracking system was put into place.

• From Jan. 1 of this year through this morning, June 16, [California] had 129 disinvestment events occur, an average of 5.4 per week.

• For all of last year, we saw an average of 3.9 events per week.

• Comparing this year thus far with 2009, when the total was 51 events, essentially averaging 1 per week, our rate today is more than 5 times what it was then.

Our losses are occurring at an accelerated rate. Also, no one knows the real level of activity because smaller companies are not required to file layoff notices with the state. A conservative estimate is that only 1 out of 5 company departures becomes public knowledge, which means California may suffer more than 1,000 disinvestment events this year. The capital directed to out-of-state or out-of-country, while difficult to calculate, is nonetheless in the billions of dollars.

The full list of companies that have announced plans to disinvest in California is available via the above link, as well as other dismal data about the current condition of business regulation in the state.

It is worth noting that a disinvestment event entails more than simply a business packing up and heading elsewhere. There are several actions that a company can pursue that are detrimental to the state, and Vranich breaks them down into the following six categories:

• Construction of a facility is cancelled due to California's costs, taxes, or environmental regulations.

• Full or partial closure. Work shifted to competitors who will perform the work out of state.

• Capital directed to out-of-state growth that in the past would have occurred in California.

• Company considered moving into California but went elsewhere, a decision termed a "U-turn."

• California lost a new facility to another state or country.

• Out-of-state relocation.

Where Is Everybody Going? And Why?

The top destinations for company relocation or diverted investment include: Arizona, Colorado, Florida, Georgia, Michigan, Nevada, North Carolina, Texas, Utah, and Virginia. Mexico, Canada, and India also made the list. It is no coincidence that some of the states listed here are also routinely ranked as low-tax states by third-party research organizations.

The decision-makers at the companies were interviewed and asked what factors led to a determination to leave the state or redirect investment. Not surprising that, again, taxes and regulatory burdens rank as a significant deterrent. Other incentives to look outside the state include: expensive location; dreadful legal fairness to business; and an excessively adversarial business climate. Chief Executive magazine calls California the "Venezuela of North America."

And as if it was needed, a new incentive for businesses to leave the state was enacted on April 12, 2011, in the form of a new law requiring utilities to acquire one-third of their power from renewable sources within nine years. California is already home to electricity rates twice the national average. Rates are estimated to increase from 19% to 74% when the new regulation is fully implemented. Further, the upcoming "California Global Warming Solutions Act" has the potential to place overwhelming hurdles that do not exist in other states and countries in front of local companies.

The good news is that California continues to set the standard on how not to run a state. It's an example that other states are paying attention to and plying the dunderheaded decisions of California legislators to their advantage. Free-market competition between states for business investment, and hence jobs, is under way, and will absolutely intensify as budget deficits squeeze a growing number of U.S. states.

A similar scenario is likely in play for individual California taxpayers as well, although statistics on this are hard to come by. As employers flee the state, it seems logical that job seekers will follow. And as the tax burden for funding government grows faster than the tax-paying population, look for a greater number of taxpayers to become former California taxpayers. The time for dreamin' is long past. It is the dawning of a new tax age for state governments.

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