With U.S. companies sitting on an estimated $1.8 trillion in cash, it raises the question: Why aren't they deploying more of their hoard to expand their businesses? Or one might channel John Maynard Keynes to ask: Where have the "animal spirits" gone?
Although capital spending in the U.S. is up 12 percent since the lows of early 2009, it's still running $88 billion below the peak of $1.34 trillion reached in the first quarter of 2008, says Joseph LaVorgna, chief U.S. economist at Deutsche Bank (DB). He doesn't expect capital spending to catch up to that peak level and officially start to expand until the second quarter of 2011. (LaVorgna's definition of capital spending includes physical equipment and software, but not structures such as new stores or manufacturing plants. Spending on structures is about 2 percent of gross domestic product, one-third the size of capital spending's contribution to GDP, he says.)
"The trend and momentum have definitely turned and it's just a matter of time before you see other companies give way to capital spending, and eventually that will result in hiring," says LaVorgna. But with spending running $88 billion below peak, he says employment "should be farther along than it is."
Companies added 67,000 jobs in August, Labor Dept. figures showed Sept. 3. Total private employment has increased by 763,000 this year.
Expanding into New Markets
Companies that have built up a lot of cash are starting to take some chances such as expanding into new markets, which requires hiring new workers, says John Challenger, chief executive officer of Challenger, Gray & Christmas, an employment consulting firm. U.S. companies have announced the hiring of 118,209 new employees through August, according to data collected by the firm.
"We're still in recovery phase. These aren't gangbuster hirings," says Challenger. "They are signs of a turnaround, but it certainly doesn't mean that the economy is roaring ahead full tilt."
So who's stepping up to the plate? Some companies refuse to be cowed and are taking big, if calculated, chances, including ambitious capital projects, hiring new workers, and expanded investment in research and development, according to growth-oriented mutual fund managers contacted by Businessweek.com. If there's a common denominator, it's a perceived opportunity and confidence in sustainable demand, whether due to new trends in technology or to new markets that need certain products. Other names came from a list of the top-hiring U.S. companies through July 2010 compiled by Challenger, Gray & Christmas.
Heading the Challenger list was Starwood Hotels & Resorts Worldwide (HOT), which plans to add 12,000 jobs in 2010, mostly through 80 to 100 new hotels scheduled to open globally. Roughly half of the new jobs will be in the U.S. If Starwood is representative, much of the hiring is likely tied to new facilities that companies are building.
Praxair Builds Gas Plants
Praxair (PX) is spending $1.4 billion this year, including on the building of new plants for customers around the world, about the same as before the recession, but only because three-quarters of the industrial gas manufacturer's capital spending is tied to new supply agreements already signed with customers. Tom Ognar, a senior portfolio manager at Wells Capital Management, likes that Praxair has been combining capital spending with returning cash to shareholders via dividend increases and share buybacks.
"We don't spend capital unless we have a new contract to supply oxygen, nitrogen, or hydrogen to our customers," says James Sawyer, Praxair's chief financial officer. "Those are 15-year contracts with minimal take-or-pay clauses written into them, which ensure we will get a good return on our capital investment, regardless of how the rest of the economy is doing."
Increasingly, Praxair is marshaling its resources overseas. The company is allocating 59 percent of its spending outside the U.S. and Canada this year, up from 50 percent in 2009. Spending has climbed mostly in emerging markets such as China and Brazil, where sales are growing by more than 15 percent per year, much faster than in the U.S. and Europe. The main driver for increasing industrial gas usage in the U.S. isn't planned output increases by Praxair's customers, but tighter environmental rules.
Some younger outfits with entrepreneurial managers who have lived through a few business cycles think their companies may be able to steal a march on competitors more reluctant to spend, says Aram Green, manager of ClearBridge Advisors Small Cap Growth Fund (SASMX). "There's clearly been a decision by management that 'This is not the time to take our foot off the accelerator. In fact, it's time to push harder and further distance our product from the competition.' "
Taleo Sees Software Opportunity
One such company is Taleo (TLEO), which develops human resources management software and sees an opportunity to attract customers who are fed up with annual payouts for maintenance and support for older products such as enterprise resource management (ERP) systems and ready to put that money toward new software that promises to solve current problems instead.
There's growing demand for software that improves a company's ability to recruit the right employees, measure their performance, and compensate and promote the "A-players" to avoid losing them. Just as businesses snapped up software designed to better manage customer relationships in the past 10 years, "this next decade is definitely about HR and strategic HR," says Michael Gregoire, Taleo's chief executive officer. Taleo has created a platform that integrates recruiting, performance management, and compensation for which the cycle is just starting and the company wants to invest in it to ensure it remains the dominant player in that market, he says. He estimates it's a $13 billion market, of which only $2 billion has been spent so far.
Taleo's capital spending has risen from $4 million to $5 million per quarter since last year. Although spending on research and development will stay at 18 percent of revenue per year, since sales are growing, the amount spent on R&D will probably increase by 15 percent to 20 percent in 2011. Taleo pulled 20 percent of the R&D budget earmarked for a new performance management and analytics product in 2011 into the second half of 2010 "to get the product to market quicker," says Gregoire. Taleo is also spending on acquisitions, such as Learn.com, a strategic partner that Taleo said on Sept. 1 it would buy for about $125 million in cash. And while most software companies laid off workers last year, Taleo hired 50 people and will likely add another 100 in 2010, including engineers and sales, marketing, and finance staff.
"We see multiple [market signs] that tell us the opportunity is here and now, and if you have the cash, it's in the best interest of the company and the shareholders to invest to get future growth and future return," says Gregoire.
More Stores for Jos. A. Bank
Despite the gloomy outlook for consumer spending, there are even some retailers that are in expansion mode. Jos. A. Bank Clothiers (JOSB) has a unique business model that's helped it thrive during the downturn: It sources classic men's fashions in low-cost regions and sells clothing at 490 U.S. locations without having to forfeit any profit to middlemen distributors.
"[The company has] no fashion or inventory risk. The same green sweater vest that gets sold in a store today is the same one they sold two years ago," says Green at ClearBridge Advisors. "They're selling staples to the Middle America workforce." Bank's net sales rose 10.7 percent from 2008 to $770.3 million in 2009.
The company's success in increasing revenue during the recession allowed it to redirect capital toward building more stores. Square footage increased by just 3.0 percent in 2009, compared with 9.0 percent in 2008, but is accelerating to 7.0 percent in 2010, says Green. Bank also plans to open five new factory outlet stores this year and another five to 10 outlets in 2011. Through a partnership with The Knot (KNOT), a media company focused on weddings and other life events, Bank is branching into tuxedo rentals, hoping to gain share in a fragmented market by taking advantage of its existing store base. The company is also overhauling its website in an effort to boost its Internet sales.
MSC Benefits from Reinvestment
Shareholders are increasingly frustrated that companies aren't using their cash to earn bigger returns, but they're not necessarily happy to see it invested if profit margins shrink in the short term as a result. The shares of MSC Industrial Direct Co. (MSM), one of the largest direct marketers and distributors of metalworking and maintenance supplies to industrial companies, were hit in January and February after the company said it saw an inflection point and was reinvesting to expand its business, lowering its excess operating margin.
But MSC's bet is paying off. The company's average order size is up 12 percent from a year earlier and its fill rate on incoming orders is 99 percent, which means it consistently has had a greater number of products in stock. That enables MSC to take market share from local competitors that lack the capital to maintain comparable inventory levels in all products, says ClearBridge's Green. The company has also increased its sales force by 8 percent over the last two years and plans to hire additional field representatives this year. The stock has recovered from its first-quarter decline, up 2.7 percent year-to-date as of Sept. 2, and 13 percent off its Jan. 29 low.
While some companies may be boosting spending, they are doing so carefully in the current economic environment. The firms that are stepping out on a limb are doing so because they know they have a reliable safety net below: either comfortable profit margins or guaranteed demand from new market opportunities. For the rest of corporate America, the "animal spirits" remain caged—a discouraging state of affairs for an economy bumping along at a subpar growth rate.