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Company Cash, Who Gets It?

|Includes: AABA, AAPL, EBAY, GOOG, GRPN, MCD, MDLZ, MMM, Microsoft Corporation (MSFT)
Corporations have become flush with cash. Investors may have heard that recently public companies were sitting on $1.1 trillion. As shareholders in some or many of these companies, this no doubt interests you, and why shouldn’t it? After all, these companies are supposedly run for your benefit, the shareholders, so maybe some of that cash will be coming your way.

Then again, maybe not. Last week we wrote about Microsoft (Nasdaq: MSFT), which had approximately $50 billion cash with roughly $13 billion in debt, so it was holding net cash of around $37 billion. It used $8.5 billion of that to buy Skype, which while popular in some quarters, isn’t really a great investment nor use of that cash. Years ago, Microsoft paid out a special dividend from the pile of cash it had. Now it pays a regular dividend, yielding about 2.7% currently, but investors might wonder, why not just raise the regular dividend?

What Companies Do With Their Money

There are only a few certain realistic options of what companies can do with their money. They can buy back shares of stock, acquire other companies, create new products, begin new operations, or raise the dividend. Legendary investor Peter Lynch wrote about this in his classic book, “One Up On Wall Street,” and details how companies can go awry with bad acquisitions, questionable products, and so forth.

Geraldine Weiss and Janet Lowe detail in their classic book “Dividends Don’t Lie” - the best book on dividend investing ever written—how even earnings can be fudged, so in one sense ultimately the only real thing an investor can be sure of is that dividend, real, tangible cash paid to him or her.

Growth, Value, And Investment

Different companies can do different things with their cash, and any of the alternatives might be appropriate for a given company—or not. For example, Google (Nasdaq: GOOG) has nearly $37 billion in cash with roughly $11 billion in debt, so with its net cash of $26 billion, it tends to make acquisitions. It has been buying many small companies over the years and is always making deals, many if not most of them beneficial, ultimately accruing to Google’s prodigious bottom line, eventually producing even more cash. When it offered $6 billion for Groupon (Nasdaq: GRPN) and was refused, prior to Groupon going public, Google may have been spared a Skype like acquisition. As companies mature, they have a tendency to make worse deals. Why? Because what made these companies great initially was their entrepreneurship, not acquisitions.

Ways To Go Wrong

Stock buybacks normally can be a very good thing, as they can increase the shareholder value since the buyback effectively takes shares out of circulation, so with fewer shares outstanding this automatically raises the value of the remaining shares. If, however, the company follows stock repurchases by issuing new shares, whose effect is dilutive, then at best you have a zero sum game. If enough stock is in the company gets used as compensation in the form of stock options for executives, then there is the chance that the executives will be enriched but perhaps not the shareholders. Watch for buybacks which mask the exercise of stock options for company officers.

Five Leading Tech Companies with their net cash, in billions

Ticker Equity Cap Enterprise Value Cash Cash/ Equity Cap Net Cash Net Cash/ Equity Cap
CSCO 117.2 92.4 38.9 33.2% 24.8 21.2%
INTC 119.2 99.4 21.9 18.4% 19.8 16.6%
MSFT 237.2 204.8 43.3 18.3% 32.4 13.7%
GOOG 192.1 160.8 35.0 18.2% 31.3 16.3%
AAPL 312.6 282.7 27.0 8.6% 29.9 9.6%

Table courtesy of Seeking Alpha

Another way the stock buyback can go wrong is if the company buys its stock at a certain price or price range, as buybacks are usually spread out over a year or more, then the stock price later trends down. If company X buys back shares at, let’s say, $75 a share, then the stock heads down to $50 a share later, despite the fewer shares outstanding, shareholders can end up with an investment worth less. Also, the practice of companies borrowing money to buyback stock can go badly. Investors should pay attention to how the stock buybacks are managed by the companies they’ve invested in to see that ultimately they benefit the shareholders.

Dividends Rule, Or Should

The combination of companies having cash and squandering it or diminishing the value of shareholders’ investments is a big reason that dividends are so important. Rather than waste money on questionable acquisitions, poorly managed buybacks, or product failures, well-run companies often do reward their shareholders directly with cash. Historically many of the best-run companies with long track records are able to combine a mixture of growing their business with at the same time paying their shareholders cash. These would be the dividend payers which have combined a surprising amount of growth while also providing their customers some cash income, such as McDonald’s (NYSE: MCD), Kraft Foods (NYSE: KFT) or 3M (NYSE: MMM).

Companies With Cash - Will They Pay You?

Historically as successful companies shift from their early high-growth phase into a steady but slower growth phase, they become more willing to pay dividends. Does this mean, for example, that a Google, with its pile of cash, will start paying a dividend soon? Probably not, as it still sees itself as entrepreneurial. How about Yahoo! (Nasdaq: YHOO), with its $2.8 billion in cash and only $40 million in debt? Or eBay (Nasdaq: EBAY), with its $6.8 billion in cash and $1.8 billion in debt? Maybe, but internet companies have been slow if not loathe to do this. Apple (Nasdaq: AAPL), the quintessential tech entrepreneur, has $29 billion in cash with and carries no debt, yet nobody expects them to be a dividend payer in the foreseeable future.

Apple and many other companies are great companies, despite paying no dividends. But for income and yield seekers, it still always pays to examine how and why a company uses its cash. If it isn’t paying you, the shareholder, it should have a good reason for it and demonstrate a better use of that cash.


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