July 25, 2013
Illustration: Rocco Fazzari
Despite the generally softer economic conditions in Australia and the financial struggles faced by some businesses, our larger companies are sitting on a combined cash pile estimated to be as large as $100 billion, much of which is surplus to their needs.
The new breed of conservative corporations are adding to this stash each year as they sit on the fence waiting for the right climate to spend it.
Such a situation raises the inevitable debate around whether the cash should be returned to shareholders or retained by companies in the hope that the economic climate will improve sufficiently to justify spending it to grow their businesses.
To date the evidence is clear that capital expenditure has been weak in other than the resources sector, which is also now moving towards a decline. And surveys on capital spending intentions don’t provide much hope that this will change in the near future.
It now has been five years since the world was hit by the global financial crisis, which all but closed debt markets and turned the global economy from risk on to risk averse. Company balance sheets were repaired and the cash hoard mentality set in.
The world economy has started to improve but the conservative mindset remains.
In the US the top 1000 companies are said to be perched on top of a cash pile that nears $US1 trillion as boards remain loath to invest or return the money to their shareholders.
The saving-for-a-rainy-day mentality mirrors the behaviour we see in the general community, where consumers are saving excess cash and getting their personal balance sheets in order rather than spending.
In Australia the household savings rate is growing faster than it has in 30 years, despite the fact that the Reserve Bank has been cutting interest rates.
In the corporate world the post-GFC hangover has placed pressure on economic growth, profitability and confidence but plenty of cash flow is still generated by much of the corporate sector.
In many cases companies have engaged in productivity-enhancing measures, including reducing all manner of costs, labour in particular.
The straddle for management and boards is whether investing capital will produce an appropriate level of return in today’s lacklustre economic environment. Right now companies are erring on the side of caution that in the low growth there is a diminished opportunity.
The limp figures around mergers and acquisitions demonstrate only too clearly that companies are not prepared to risk buying growth or market share.
They also need to assess the chances of a fresh bout of global volatility and whether keeping cash in reserve is appropriate.
”Australian companies do have high levels of cash balances. It’s a question of how much is cyclical (a response to a lower economic growth) and how much is tactical (a shift to more conservative capital structures),” says Tony Masciantonio, managing director, debt markets, at Westpac.
There have been plenty of aftershocks since 2008-09, particularly in Europe, to explain today’s balance-sheet conservatism.
And there remain massive stimulus measures around the globe – particularly in the US and Japan – to foster the early signs of economic recovery.
The situation is further complicated by enormous structural shifts in the global economy, brought about primarily by rapid changes in digital technology.
Being able to read the economic cycle is difficult enough, but overlaying the fact that many industries are facing new sources of competition adds another layer of uncertainty.
The question then becomes: what will provide the trigger for companies to decide if it is safe to spend again?
And in the meantime will shareholders decide they have waited long enough and increase the pressure on companies to start handing the money back via share buybacks or increased dividends.
Masciantonio points out that all chief executives want their companies to grow, but he acknowledges that if the cash is there too long they have to think about giving it back to shareholders.
The jury is out on when companies might regain the confidence to at least make a decision. Some say three to five years but ultimately these are guesstimates.
Realistically nothing will happen until managers have a clearer outlook. And there is no suggestion that balance sheets will return to the pre-GFC appearances. At the very least, stricter regulatory settings won’t allow banks to return to pre-GFC risk settings.