Apple’s cash position is plunging, which is good for both the company and the company’s shareholders.
Still, many Wall Street investors and analysts see signs of trouble that Apple’s AAPL,
cash and short-term investments fell to $48 billion at the end of June 2022, from $107 billion at the end of 2019, a decline of 55%.
A long-standing theory in corporate finance is that companies with cash on average perform worse than those with smaller savings accounts. This theory was expounded decades ago by Michael Jensen, professor emeritus of business administration at Harvard Business School. In a now famous 1986 article in the American Economic Review, Jensen argued that businesses would be less efficient to the extent that they hoarded cash beyond what was needed for day-to-day operations.
Why would too much money be a bad thing? Jensen speculated that this encourages business leaders to engage in mindless behavior. Jensen argued that shareholders should try to “motivate executives to return the money rather than investing it below the cost of capital or wasting it on organizational inefficiencies.”
That’s the theory. But does it hold up in practice? To get some insight, I contacted Rob Arnott, founder of Research Affiliates. Arnott was co-author in 2003 (with Cliff Asness of AQR Capital Management) of a study that provided empirical support for Jensen’s theory. Their study, published in the Financial Analysts Journal, was titled “Surprise! Higher dividends = higher earnings growth.
They analyzed corporate earnings growth over 10-year periods between 1871 and 2001 and found that earnings grew fastest after years with the highest corporate dividend payout ratios. Companies that hoarded their money instead of distributing it to shareholders performed worse, on average.
In an interview, Arnott said he believed the conclusions he and Asness reached two decades ago were still valid. So he sees Apple’s dwindling cash flow as a positive for the company’s future prospects.
What if Apple needed the money it no longer has in the future? Arnott replied that the company would only have to approach the debt or equity markets to raise funds, which it would have no trouble doing – provided it used the cash for productive purposes. . This condition is key to why a small cash reserve is positive, Arnott explained: it imposes market discipline and accountability for any new projects or investments a company might want to make. With high levels of cash, on the other hand, there is no such discipline or accountability.
In any case, Apple does not seem to suffer from the decrease in its cash. Since the end of 2019, when its cash and short-term investments fell 55%, return on equity has risen from 55% to 163%, according to FactSet. Over the same period, the stock produced an annualized total return of 35.3%, tripling the 11.1% of the S&P 500 SPX,
The bottom line? As plausible as the narrative that falling cash levels are is a bad omen, it actually appears to be a positive development. The broader implication of investing is to dig below the surface when presented with such narratives.
Mark Hulbert is a regular GameSpot contributor. His Hulbert Ratings tracks investment newsletters that pay a fixed fee to be audited. He can be reached at [email protected]
Hear Ray Dalio at the Best New Ideas in Money Festival on September 21-22 in New York City. The hedge fund pioneer has a strong opinion on the direction of the economy.
After: Apple raises $5.5 billion in debt after upbeat earnings, iPhone sales offset fears of consumer pushback
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