Corporate Coffers Are Stuffed With Dough

Blessed with a lock on its markets, Microsoft Corp. (MSFT) is one of the greatest cash machines ever created. At the end of March, it had $56.4 billion of cash on its books. And that figure could swell to nearly $60 billion when it reports its fiscal fourth-quarter earnings on July 22. That may be too much for even Microsoft's conservative chairman, William H. Gates III. With its long-running antitrust troubles finally winding down, Microsoft is expected to announce by the end of July a share buyback that some suspect could be as high as $40 billion.

When it comes to its corporate piggy bank, Microsoft is in a league of its own. But many other companies, flush with soaring profits, are also facing an embarrassment of riches. At the end of the first quarter, the 374 industrial companies in the Standard & Poor's (MHP) 500-stock index collectively were sitting on $555.6 billion of cash and short-term investments. That's up some $56 billion, or 11%, since the end of 2003, and more than double what they had at the end of 1999.


This growing money pile could spell either opportunity or trouble for the economy and investors, depending on what companies decide to do. With the rise in consumer spending slowing, the economy needs companies to start tossing some of those big bucks around to keep momentum from flagging. That could happen as CEOs' moods brighten. The Conference Board reported July 7 that more than 90% of chief executives in its latest quarterly poll say the economy has improved. If the corporate dollars start flowing, "there is yet another shoe to drop in the expansion," Federal Reserve Chairman Alan Greenspan recently told the Senate Banking Committee.

But, so far at least, instead of putting all this firepower to work -- by pumping up capital budgets, upping the pace of hiring, restocking inventories, or passing out bigger dividends -- companies are keeping much of their powder dry. Rather than taking a risk, many would rather park their cash in the equivalent of money-market funds -- never mind that they're often earning a puny 1% return. The mood is one of "continued caution and disciplined spending in the business sector," concluded a number of members of the Fed's policymaking Open Market Committee at its May 4 meeting. "That caution," adds Sung Won Sohn, Wells Fargo & Co.'s (WFC) chief economist, "is holding back economic growth."

Why aren't companies spending more? Blame it on the series of events that knocked them for a loop over the past few years: recession, terrorist attacks, financial scandals. After getting pummeled, companies slashed expenditures and set out to boost their reserves. Now, with the economy rebounding, this budgetary discipline is generating a huge surge in earnings. Collective earnings for the S&P 500 reached a record annual pace of $481.7 billion in the first quarter, and equity analysts predict the record will be smashed as second-quarter earnings are reported in the coming weeks.

So far, though, companies have been unusually tightfisted with their new-won wealth. Take capital spending. To be sure, it is rising. But since the start of 2003, it has lagged far behind surging cash flows, something that hasn't happened since the mid-'70s. Similarly, companies aren't restocking their shelves anywhere near fast enough to keep pace with sales. That drove the ratio of inventories to sales to a record low of 1.3 in April.

And after a hiring binge in early spring, employers pulled back and added just 112,000 jobs in June, less than half the 250,000 that had been projected. Despite the tech recovery, Cisco Systems Inc. (CSCO) hired all of 200 employees last quarter -- hardly enough to register on the radar screen of a giant that employs 34,000. BellSouth Corp., which slashed 17,000 jobs over the past three years, has cut 2,200 more this year.

All this has produced mountains of cash. In fact, 24 of the 374 industrials in the S&P 500 have at least $5 billion on hand. Many are tech companies, such as Hewlett-Packard (HPQ), Intel (INTC), Cisco Systems (CSCO), IBM (IBM), and Oracle (ORCL). But other industries have lots of dough, too. High oil and gas prices have pushed Exxon Mobil Corp.'s (XOM) cash reserves to $15.9 billion, second only to Microsoft. Health-care insurers and big drugmakers also have the Midas touch.

While many execs argue they need the money in case the economy softens or for strategic moves such as acquisitions, the problem with sitting on so much cash is that it drags down a company's return on capital. Anthony J. Carfang, partner at Treasury Strategies Inc., which advises businesses on cash management, says he has seen "a huge swing of corporate assets into money-market mutual funds," yielding less than 1%.

That's fueling a growing debate about when and what Corporate America will do with this money. Companies have two basic alternatives. They can deploy the cash to fuel growth, by stepping up capital spending, hiring more workers, and acquiring other companies. Or they can return some of this cash to investors, through higher dividends or by stock repurchases.


Microsoft may be the first to break the logjam in a big way. Preparing for an imminent announcement on what he'll do with all of Microsoft's billions, CFO John G. Connors says he has been talking to "lots of other companies, bankers, and academics." The likely outcome, says Goldman, Sachs & Co. (GS) analyst Rick Sherlund: a massive stock buyback of up to $40 billion. "I hear them talking a lot about being tired of the stock at this level," he says.

Other cash-rich companies are planning acquisitions. Health insurer Anthem Inc. (ATH), for one, is wrapping up its $16.4 billion purchase of rival WellPoint Health Networks Inc. (WLP) and is mulling more deals with the $16 billion in cash the combined company will have on hand. "We continue to be opportunistic," says Anthem Chief Financial Officer Michael L. Smith.

No one is more aggressive than BellSouth (BLS) and SBC Communications Inc. (SBC), which are scrambling to finance the purchase of AT&T Wireless Services (AWE) by Cingular Wireless, which they jointly own. Neither has enough cash to fully fund the $41 billion deal. So SBC has been selling off assets, including a large stake in Danish phone company TDC (TLD), while BellSouth is planning to increase its debt.

But such bold deals are still the exception. Although mergers-and-acquisitions activity is picking up, "we don't see a frenzied environment in the near future," says Robert Filek, a partner in PricewaterhouseCoopers' transaction services practice. "The risk of doing a bad transaction far outweighs the desire to achieve a short-term improvement in return."

A similar caution continues to impede what should be a far stronger surge in capital spending at this point in the recovery. "There's still a negative connotation associated with overinvestment, and that's depressing the rate of capital spending," says James W. Paulsen, chief investment strategist for Wells Capital Management. ExxonMobil Chairman Lee R. Raymond recently said he'll hold capital spending to around $15.5 billion for the next couple of years.

True, many economists expect companies will loosen their purse strings as the economy grows. A July 7 report from the National Association for Business Economics notes that 41% of member companies plan to boost hiring in the next six months, up from 34% in April. But while 61% expect to hike cap-ex, just 13% foresee increases of more than 10%.

In this environment, some Wall Street strategists say it makes sense for many companies to return more cash to investors. Among cash-fat drugmakers, for example, "you have executives in a mature industry pretending they are growth managers," says analyst Richard T. Evans of Sanford C. Bernstein & Co. "The reality is that there are not going to be as many opportunities to deploy that cash as the industry appears to be betting."

During the boom of the late '90s, the mantra was "Cash is trash." Now cash is one of the few security blankets for wary CFOs. But if renewed respect for cash makes execs feel more secure, it's hardly the best news for the economy.

By William C. Symonds in Boston, with Jay Greene in Seattle, Rich Miller in Washington, Peter Burrows in San Mateo, Calif., Joseph Weber in Chicago, and bureau reports

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