Pressure mounts for corporates’ cash piles to be put to work
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It is a paradox troubling many in business world: if companies are sitting on record levels of cash, why aren’t they spending it?
In the wake of the financial crisis, the corporate world has built up huge cash reserves. In 2008, the non-financial members of the global S&P 1200 index – 975 of the world’s biggest companies – had a total of $1.95tn in cash. But by the end of 2012, that level had jumped 62 per cent to $3.2tn as a result of companies hoarding cash following a banking crisis which shattered trust in sources of credit.
A 30 per cent rise in the S&P 500 during 2013, recovering economies, rising business confidence and low funding costs should have laid the foundations for greater spending by companies, on mergers and acquisitions, on capital expenditure, and on returning cash to shareholders. Instead, cash levels continue to rise.
One explanation is that the cash is not evenly spread, and is in fact being held by an increasingly concentrated group of companies, according to a study by business advisory and accountancy firm Deloitte of Bloomberg data.
Companies outside this group have actually been taking on more debt. According to S&P, net debt of non-financials has been rising globally in the past few years as companies have taken advantage of historically low interest rates to lock in cheap funding.
Deloitte’s study illustrates the growing concentration of the untapped cash. At the start of the credit crisis in 2007, companies with more than $2.5bn each in cash and near cash items, such as short-term investments, held 76 per of the $1.98tn of cash reserves of the non-financial members of the S&P1200.
By the third quarter of 2013, this had risen to 82 per cent (of a total $2.8tn), the highest percentage since before 2000.
The study excludes financial institutions, which are required to hold a certain threshold of cash reserves due to regulatory requirements, and does not take into account company debt levels.
With the US Federal Reserve’s policy of tapering signalling that the era of cheap debt is coming to an end, some analysts say attitudes towards cash hoarding – among chief executives and investors – will change this year.
Simon Dingemans, chief financial officer of pharmaceutical company GlaxoSmithKline, said the group had no plans for a big increase in capital expenditure, which has remained steady at roughly £1.5bn a year. But he detected a change in mood in the broader business community. “There is definitely more appetite to invest and to take on a bit more risk,” he said.
Investors still wanted GSK to “remain disciplined and keep the balance sheet tight”, Mr Dingemans added, “but at the same time they want us to be alive to opportunities”.
After a banking crisis fuelled by excess leverage, corporate treasurers were initially encouraged by many investors to fortify their balance sheets and shun risky M&A.
But Deloitte’s analysis of the S&P 1200 and FTSE 100 suggests that cash-rich companies have been underperforming those with relatively small cash piles since 2008, measured either by their quarterly revenue growth or share price performance.
Of the global S&P 1200 non-financial companies, as of the third quarter 2013, technology companies held the most cash ($775bn in total), followed by telecoms, then energy and healthcare.
On average, companies in the Asia-Pacific region held the most cash (an average of $4.2bn each in the third quarter of 2013), followed by South America, then North America, and lastly Europe. But as North American companies make up by far the biggest regional group in the S&P 1200, this group is sitting on the most cash in total, a figure that has risen sharply since 2008.
Cash hoarding has altered some companies’ attitudes towards buying and selling assets, say bankers.
“Given many are cash rich, the attraction of cash proceeds from a sale of an asset is less attractive than a few years ago, as attractive alternative use of proceeds is increasingly an issue for the recipient,” says Mervyn Metcalf, of boutique investment bank Dean Street Advisors.
Cash-rich companies making disposals may be pressured by shareholders, including a growing number of activist funds, to give the proceeds to them. But one method, share buybacks, no longer looks as attractive after last year’s equity rally.
Distribution of cash to shareholders is at the lowest level in Europe since 1998, according to Bank of America Merrill Lynch. But, in a sign that investors’ priorities are shifting, less than a third of asset managers surveyed by the bank want companies to return more money to shareholders.
In BAML’s latest global fund manager survey, published on Tuesday, a record 67 per cent of investors think companies are “underinvesting” and 58 per cent want corporate cash to be used for capex.
“After five years of no capex or sales growth, a lot companies are now going to start to feel the pressure – they need to do something with their cash and strong balance sheets,” says Jose Linares, head of JPMorgan’s Global Corporate Bank.
Additional reporting by Andrew Ward