Cash Piles at American Companies Are Shrinkingby
Disappearing profits limit companies’ ability to cover debt
Dividend growth and plans for new repurchases stall in 2016
Little by little, the corporate cushion is shrinking.
Pressured by a year-and-a-half of weakening profits and splurges on buybacks and dividends, the once-towering piles of money at American companies have started to topple. Cash and equivalents slipped to a median $860 million at S&P 500 Index members last quarter, touching levels not seen for three years, according to data compiled by Bloomberg.
While hardly a portent of mass insolvency, the slippage complicates the balancing act for chief executive officers trying to keep shareholders appeased while earnings drop. Spending on share repurchases, which inoculated investors from the sputtering economy for seven years, is getting harder just as the Federal Reserve weighs raising interest rates.
“Those things are going to leave a mark when lending starts to get a little more tough and companies have to rethink some of these buyback announcements and dividends,” said Sameer Samana, a St. Louis-based global quantitative strategist at Wells Fargo Investment Institute, which oversees $1.8 trillion. “You’re seeing that already and it’s concerning.”
At first glance, S&P 500 companies look flush, with cash outside the financial sector at $825 billion at the end of the second quarter, near the highest of the bull market. The catch is that the money is concentrated in just a sliver of the market: the top 50 richest companies in the benchmark index account for more than half the total.
For the other 90 percent, balances are being reduced at the fastest rate since the start of the bull market. Total cash for that group was $385 billion in the second quarter, compared with $447 billion at the end of 2015 and down 10 percent from the year before, on pace with an 11 percent dip at the end of 2014 that was the biggest since 2009, Bloomberg data show.
Money is getting less abundant across industries as some of the biggest companies see reductions. Cash fell 26 percent at Google parent Alphabet Inc. from a year ago, while it dropped 66 percent at AT&T Inc. The largest losses are in oil companies like Chesapeake Energy Corp., where reserves of $2.1 billion plunged to $4 million over the past year. A handful of tech companies also saw their reserves shrink: EBay Inc. and NetApp Inc.’s cash slid by at least 24 percent.
Short-term investments, securities that are easily liquidated and mature within a year, were roughly flat over the period. S&P 500 companies listed $6.62 trillion of those at the end of the second compared with $6.64 trillion in the first quarter of 2015.
The crux of the issue is deteriorating earnings. S&P 500 companies have posted negative growth for six straight quarters, a stretch that’s been exceeded only once since 1936, during the financial crisis. Analysts see income declining 1.4 percent in the current period, dragged down by contractions at automakers, banks and computer makers.
Earnings before interest and taxes at S&P 500 companies totaled $1.1 trillion in the year ended last quarter, the lowest since 2011, according to data compiled by Bloomberg.
Most of the cash depletion represents compensation to shareholders at a time when coffers aren’t being replenished as quickly. Total buybacks and dividends in the S&P 500 equal about 128 percent of annual earnings this year, the most on record outside the financial crisis, according to an August report by Barclays Capital Inc.
“If you look at the balance sheet, it’s been exacerbated by the buybacks, dividends and cash levels starting to fall, given earnings growth hasn’t been good,” said David Lafferty, the Boston-based chief market strategist for Natixis Global Asset Management. His firm manages $966 billion.
Pressure is building at U.S. corporations that have chosen to return money to shareholders instead of spending it on plants and equipment. Investor priorities are shifting: companies with the highest capital expenditures are beating those with the most share buybacks in the stock market, S&P index data compiled by Bloomberg show.
An index of companies spending the most on cap-ex is up 12 percent in the past year, compared with a 9 percent gain in an index tracking those with the most share repurchases.
Signs that companies are already growing weary of keeping up current levels of cash outlays are cropping up, with new buyback announcements down $115 billion since 2015 and dividend growth on pace for the worst year since 2010, according to Barclays Plc.
That slowdown in payouts is a concern to Barclays equity strategist Jonathan Glionna, who wrote last month that a lack of improvement in earnings will limit dividend growth, and in turn, is likely to slow the ascent of the stock market.
“The missing ingredient has been that elixir called growth,” Eric Wiegand, senior portfolio manager at the Private Client Reserve of US Bank in New York, which oversees $128 billion. “There hasn’t been the level of conviction to put out anything of consequence in cap-ex. To see any sustained advance we need to see demonstrations of growth.”
It’s not that companies are unable to raise money. Persistent low interest rates and a lack of clarity from Janet Yellen’s Federal Reserve means U.S. companies are capitalizing on the same near-zero borrowing costs that fueled the debt boom throughout the bull market. Median total debt in the S&P 500 climbed to $5.43 billion in the second quarter, the highest ever, according to Bloomberg data.
“Borrowing at these incredibly low levels to use that capital elsewhere, even for dividends and buybacks, is the appropriate thing to do,” said Michael Arone, the Boston-based chief investment strategist at State Street Global Advisors’ U.S. intermediary business. Still, he said, “there’s a limit to how much companies can take on.”
Weakening profits could one day halt the binge. Debt at global companies rated by S&P is already reached three times earnings before interest, tax, depreciation and amortization in 2015, the highest in data going back to 2003 and up from 2.8 times last year, according to the ratings company.
“As the credit cycle ages, access to capital tightens and borrowing costs increase, lowering profit margins at a time that’s likely to be difficult from a growth perspective,” said State Street’s Arone. “Changes in interest rates will matter very little to Apple’s cost of capital, but it certainly will be more painful to others.”