Hoarding Cash– Corporations Stashing Billions: Accumulating Massive Amounts of Cash Reserves– Caution, Fear, Greed…

Hoarding cash: Billions-Trillions in cash that are socked away are a good measure of what global business thinks about our times: It isn’t pretty… despite what some suggest it doesn’t appear to be guided by greed or complacency… John Bussy

Hoarding cash is the practice of companies holding large amount of cash (‘cash reserves’)… cash held in anticipation of facilitating company initiatives, for example; acquisitions, expansions, investments… Analysts often speculate about the purpose of corporations’ large cash reserves, i.e., act of accumulating assets, especially cash… over and above that is needed for immediate use…

According to ‘Federal Reserve’, as of third quarter of 2012, non-financial corporations in U. S. held $1.7 trillion of liquid assets; cash, securities… One explanation for higher cash holdings is uncertainty of the economic environment… or, they may also face greater difficulty in getting credit on short notice, and need to hold more cash as precaution.

A 2011 study by ‘International Monetary Fund’ suggests; higher cash holdings by corporations are simply a sign they plan new investments in the near future. It says, this is a ‘good omen’ that indicates investments can increase significantly over the next year or two. However, the dominant explanation for increased liquidity of non-financial corporations appears to be the growing role of multinational corporations and profits of foreign operations.

According to Kevin Warsh, ‘Federal Reserve Board’; higher corporate cash holdings are dominated by those with foreign operations… the ‘ratio of cash to assets’ at domestic-only businesses increased 20%, while it increased 50% among multinational businesses. While this may indicate multinational corporations expect better growth potential among foreign subsidiaries, and planning for additional offshore investments; however, some believe a more likely explanation is tax-based… That is, under U.S. tax law corporate profits generated offshore are taxable with tax credit for taxes paid in foreign jurisdictions.

But, U.S. taxes don’t apply unless and until such profits are repatriated. A study in ‘Journal of Financial Economics’ found; among multinational corporations, those facing higher repatriation taxes tended to hold more cash abroad than those facing lower tax burdens. Moreover, cash holdings tend to be higher in countries with lower taxes than those with high taxes. Further more, tax sensitivity appears to be greater in technology-based companies…

According to Michael Mandel; lagging business investment is one of the chief problems slowing down  the recovery. Companies are letting money sit idle, accruing minimal interest, rather than spending it on new equipment, investments… and that’s not even touching research and development (R&D), new employees… 

So how can corporations be coaxed to invest more? Some suggest enforcing tax penalties on companies that hold excessive cash reserves… In the meantime, companies are going to keep stuffing cash into their mattresses until the economy calms down…

In the article Hoarding Cash Is Nothing New by Tom Lindmark writes: So why have firms opted to accumulate cash over the past two decades. Here are a couple of ideas. According to Timothy Taylor; broadly speaking, there are two reasons for firms to hold more cash; ‘precautionary motives and repatriation taxes’. ‘Precautionary motives’ refers to notions that firms operate in situations of uncertainty, for example; uncertainty about what stresses-opportunities might arise, and whether they can get a loan, on favorable terms, when they want it: Cash offers flexibility. ‘Repatriation taxes’ refers to taxes that are due to the U.S. government from corporations operating abroad… such taxation only takes place when earnings are repatriated…

Typically, business decision-makers react to uncertain market conditions with the most natural, intelligent, and rational human response imaginable: Caution. Failure to invest under conditions of economic malaise, recession, or disruption is not cowardly, stupid, irrational… it’s often just plain common sense. Furthermore, executives and directors of corporations owe a fiduciary duty to their stakeholders to make rational and prudent decisions. If prudence dictates caution, who will gainsay CEO’s or board’s decision to defer that new manufacturing line, acquisition… until conditions become clearer?

So what do we know: Well, there’s nothing new about U.S. companies accumulating cash, they’ve been doing it for a long time. U.S. tax policy most likely contributes to the practice of parking excess cash overseas, and may also stymie the distribution of profits to shareholders... and technology firms seem to lead the hoarding pack. I suppose this last fact has something to do with knowledge that any given technology firm is just one invention or innovation away from extinction. That does tend to focus one’s attention and perhaps lead to an abundance of caution…

In the article Cash Hoarding Stunts Europe by Stephen Fidler writes: Across Europe corporations are sitting on a mountain of cash. The trouble is they aren’t spending much of it. It’s not only in Europe that companies are hoarding piles of cash. According to ‘Institute of International Finance’; corporations in U.S., euro zone, U.K., and Japan hold some $7.75 trillion in cash or near equivalents, an unprecedented sum. In Europe, the problem is particularly acute.

According to Simon Tilford; the ‘ratio of investment’ to ‘gross domestic product’ in Europe is at 60-year low even as companies pile on cash. Corporate cash holdings are now €2 trillion ($2.64 trillion) across the euro zone and extraordinary £750 billion ($1.19 trillion) in the U.K.  Companies are piling up cash for combination of reasons; one is reaction to financial crisis.

Companies that built excessive debts before the crisis are paying them down. Firms also are hoarding cash because of a broken banking system: Banks have retreated from lending and companies are building cash buffers to compensate. For continental Europe, where companies still draw a majority of their finance from banks rather than from the capital markets, the retreat of bank lenders is significant.

Mr. Tilford argues; another reason is government policies. Excessive fiscal austerity, he says, has snuffed-out Europe‘s tentative economic recovery and threatens a swath of the euro zone with a slump… another factor helping to build corporate cash piles is distorted incentives for senior executives… Firms are being run for cash rather than growth, with damaging implications for economic activity…

In the article Previous Corporate Hoarding Of Cash by Sy Harding writes: For a number of years politicians and analysts have bemoaned the fact that U.S. corporations were hoarding cash to an unprecedented degree, refusing to invest it for future growth that might have helped the economy recover from the back-to-back recessions of 2001 and 2008.

Lagging business investment has continuously been tagged as one of the major factors stifling the economy. Depending on whose numbers you believe, corporations are sitting on a record $2 trillion to $4 trillion in idle cash, earning only today’s minimal interest. It’s my expectation that the economy and stock market face one more setback at some point, which will be created by the next step in returning to normal; the belt-tightening austerity measures that will have to be imposed on the country to tackle the major remaining problem– bringing down the record government debt level

However, the next set-back is not likely to be anywhere near as severe, and the hoard of corporate cash is one reason for that expectation: Corporations are planning ahead…

In the article Myth of Corporate Cash Hoarding by Alan Reynolds writes: U.S. non-financial corporations were sitting-on $1.93 trillion in liquid assets at the end of last year’s third quarter, according to the ‘Federal Reserve Board’. This has become one of the most frequently echoed statistics, viewed as indisputable evidence that U.S. business leaders are unduly timid or evil.

More recently, ‘Washington Post’ columnist Harold Meyerson opined that; U.S. corporations can’t sit on their nearly $2 trillion in cash reserves forever, but that doesn’t mean they’re going to invest their stash in job-creating enterprises within the U.S. The chorus of media outrage about supposedly excessive corporate cash reveals nothing about the financial health of any U.S. business. It simply reveals ignorance of elementary accounting…

In fact, U.S. corporations are increasing investments in plant and equipment at same time they are increasing investments in so-called ‘liquid’ assets (e.g., bonds, time deposits, mutual funds…). The widely repeated notion that prudent corporate investments in liquid assets have somehow reduced real investments is nonsense…

There is no reason or advantage for companies to hoard cash (i.e., excessive cash reserves)… companies that do not invest their cash in income-producing assets do not grow: It’s that simple. While a stagnant company can survive for a while by sitting on a stash-of-cash might seem safe; it’s a false sense of security. Companies that hoard cash– don’t invest or don’t plan to invest on business growth initiatives are doomed to fail… investing in business growth is an imperative…

According to ‘Fortuna Advisors LLC’; companies that hoard cash beyond a certain limit actually deliver lower returns to shareholders… In an article in CFO magazine writes: Investors are growing restless, and in some cases furious, about what they see as ‘inefficient balance sheets’ that are building large cash balances. They often demand fat share repurchases to disgorge cash cushions that they claim erode management’s accountability to the capital markets and reduce the company’s ‘return on capital’.

Cash balances are, to be sure, clearly on the rise. Analysts  examined the largest non-financial U.S.-domiciled companies, eliminating those without adequate accounting and share-price data for the last 10 years. At the end of 2010 those 885 companies held almost $750 billion in cash and equivalents– nearly four times the level of 10 years earlier. This represents a doubling of the ‘ratio of cash to assets’ from 3.7% to 7.3%, over that period. Although most of the companies now hold less than 15% of their assets in cash, some hold as much as 40% or more.

Do such large cash balances have a negative impact on ‘expected share price’ performance as investors claim? To answer this, a group of companies were defined as ‘cash hoarders’ that had over 15% of their ‘total assets’ in cash and cash equivalents on average over the last 10 years. Research of the period from 2001 to 2010 shows that the cash hoarders deliver median ‘total shareholder return’ (TSR) about 4.6% lower per year in comparison with the companies that hold less cash.

Holding cash doesn’t seem to affect TSR as much until it exceeds 10% of assets, but then it seems to have fairly strong negative effect once cash is above 15% of assets. Excessive cash hoarding is destructive to business… Companies unable to deliver a higher rate of return by deploying excess cash– must return cash to shareholders and not squander it.