We all should be feeling a little richer these days. The stock market has reversed the losses it suffered at the height of the most recent emerging markets scare, with the S&P 500 index breaking through to a fresh closing high. True, the S&P/Case-Shiller Home Price Index retreated slightly in December for the second month in a row, but only by 0.1 percent. In light of its year-over-year advance of 11.3 percent, that doesn’t feel like the first sign of impending doom.
If the “wealth effect” is true for consumers, it should be even more evident for corporations. With every passing month, the pile of cash on the books of companies has grown still more gargantuan. Deloitte has estimated that globally this amounts to about $2.8 trillion, if you exclude banks and other financial services companies. To put that in context, $1 trillion of that – less than the sum on the books of U.S. corporations – would, Kiplinger’s has calculated, be enough to employ every man, woman and child in Kansas at the minimum wage, full time. For the next 23 years.
At least consumers are spending some of their increasing paper wealth. Consumer spending climbed 0.4 percent in December, more than economists had forecast in light of a mixed bag of holiday shopping results.
Companies, on the other hand, are still clinging pretty tightly to the drawstrings of their moneybags. True, every so often we see a blockbuster merger or acquisition announced, like the proposed $45 billion deal between Comcast and Time Warner Cable or Facebook’s $19 billion acquisition of tiny WhatsApp. But these are the exception, rather than the rule.
Howard Silverblatt, senior index analyst at S&P Dow Jones Indices, calculated that S&P Industrial issues wrapped up 2013 with more free cash on their books than ever before, the equivalent of 91 weeks’ worth of net income. (Imagine, for a minute, that your own emergency savings account represented 91 weeks’ worth of personal earnings – that, if you quit your job tomorrow, that account alone would replace nearly two years’ worth of after-tax income.)
It isn’t just the buildup of cash on their books that’s abnormal, though. Leverage levels are lower than average, even as capital is cheaper than ever. Capital spending remains relatively lackluster. Silverblatt recently took a gander at the latter set of data and ruefully noted that though he’d love to report that companies are spending to expand their U.S. operations, “lying is immoral, improper, illegal, unethical, and against corporate policy.”
Combined with the low pace of M&A dealmaking that we’ve seen since the recovery from the 2008 financial crisis and the subsequent recession began nearly five years ago, and it’s clear that while companies clearly are wealthier, they’re not acting like it.
It’s time that they did, and picked up some of the slack from consumers.
The wealth effect that may make it easier for some ordinary households to buy, say, a new television or dishwasher, or even to start renovating their kitchens, isn’t always a sustainable phenomenon. Gains in wealth that are tied to the value of assets – a house, or an investment portfolio – can be ephemeral. Unless and until those assets are sold, and the proceeds banked as cash, they can diminish in just the same way that they rose in value. And the level of volatility can be astonishing. Just ask anyone who suffered from the double whammy to both kinds of paper profits in 2008.
More worrying still is the fact that the increase in consumer spending seems to have been fed by taking on more debt. The Federal Reserve Bank of New York calculated that total consumer debt jumped 2.1 percent in the fourth quarter of 2013, more than we’ve witnessed since the third quarter of 2007.
There are plenty of reasons to explain the corporate reluctance to start using all that cash. Some of it is “trapped” overseas. Well, not really trapped, but a company that wants to repatriate the money and put it to work in the United States will have to pay taxes. For now, at least, companies choose not to pay those taxes, even if it means forgoing domestic expansion and investment opportunities. (About three-quarters of Apple’s extraordinary cash mountain is explained away under this analysis.)
Then there’s the “we’ve got to be cautious” mentality. Ironically enough, cash-strapped families and households – whose earnings are largely stagnant – have recovered from the financial crisis more rapidly than have corporations, or are less haunted by its lessons. While that’s not necessarily a good thing, refusing to consider investing out of wariness or fear of uncertainty isn’t a hallmark of great corporate leadership, either.
In a recent analysis of corporate M&A activity, Andrew Garthwaite, global equities strategist at Credit Suisse, concluded that even if leverage levels at corporations did nothing more than return to normal, those businesses would have $2.3 trillion in firepower available to pursue deals, with private equity firms possessing an additional $1.1 trillion. That corporate firepower – coming atop the trillions of cash already on the books – could also be used to invest in existing businesses.
As consumers are often reminded, spending creates growth. It’s time for shareholders to remind cash-rich and under-leveraged companies of that fact – unless, that is, that they want to end up investors in businesses whose executives devote more time to managing cash (deciding how much of it to pay out in buybacks and dividends, and how much to pay themselves as bonuses for their ability to manage the cash) than operations.
Perhaps that explains the willingness of some investors to pay premium valuations for companies like Amazon that clearly are growth oriented? It’s something to ponder.
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