approximately 5% in taxes. Many did. Many companies figure that if that happened before it might happen again.
Now, their waiting around for the next tax holiday. Waiting around isn’t exactly right.
We mean they are lobbying Congress aggressively. Maybe they are upset that the tax rate on repatriation seems to high, or maybe they think that by building up obscene amounts of cash Washington will accommodate them.
Anticipation of attacks repatriation holiday allows companies to tell the shareholders that bringing the cash back too soon would be erased shareholder money. In reality, no CFO wants to wear wrist wringing cash back to the US this year only to find out that there will be a tax holiday next year. In some ways the cash sitting unused year after year is analogous to having an inventory problem. The opportunity cost of trapped foreign cash is very high. The money sits earning only a small amount of interest it generates return less than inflation. Like decaying inventory, the real value of the cash decays a little bit every day.
Even worse, the return is far below the cost of capital. Companies with all equity balance sheet’s, the cost of capital is particularly high, because expense of equity capital supports both the business and the foreign cash. Finance suggests that unlevered or net cash balance sheet should be rewarded with a higher PE multiple. Impact is, the market assigns a discount for this level of overly conservative, long-term capital management. Not only does the cash earned a return below the cost of capital, it is evident that future profits will probably also be reinvested at a low return.
As a result, the market not only discounts the cash sitting on the balance sheet, and also drives down the PE multiple, due to the anticipated sub optimal reinvestment rate for future cash flows. While cash whoring is prevalent in the tech industry industry it isn’t practiced universally. Consider Texas Instruments and IBM. Both have met that, illustrating that large tech companies can operate with debt. Both returned the majority of free cash flow to shareholders by dividends and repurchases. Less stock. The one convenient examples for buybacks and dividends being back to the chair price Ayling to return excess cash in the face of a low multiple usually depresses share price and valuation further.
IBM and Texas Instruments are considered shareholder friendly and are rewarded for their behavior. You can see that they have better PE multiples net of cash, despite expected earnings growth rate comparable to peers with excessive cash balances. IBM is a mature business with little to no revenue growth. IBM is dependent on acquisitions and has debt on its balance sheet. Even so, because it is seen as shareholder friendly, through continued reductions in the share count, it trades at a premium multiple and even attracted Warren Buffett. IBM get the higher value, in part, because it cares about its shareholders.
In contrast, cash risk balance sheet has led to poor PE multiples. Then we have the story of Dell, which has the lowest PE of all. Dells go private transaction exposes the disingenuous nature of the cash hoarding rationalization. Last year we were large shareholders of Elle. We were told that foreign cash couldn’t be repatriated and that domestic cash needed to be saved for strategic acquisitions financial,’s ability in tough t imes. We found their attitude toward capital allocation to be so unappealing that we sold the stock. We suspect that we weren’t the only shareholders who were frustrated. The frustration help depress the stock. Michael Dell probably didn’t mind the stock falling. For him, it created an opportunity.
Now, you want to take L private and Wolof the balance sheet will be fully utilized to finance his purchase of the company. Dells cash-rich balance sheet will become a leverage balance sheet. At least some of the untouchable for in cash, take a deep rest, is said to be repatriated. Another was, management actions show that when it’s our money, it needs to be held conservatively and reserved for strategic flexibility. But, when it’s their money, they don’t mean so much rainy day cash and they’d like to see the balance sheet working harder to generate the maximum return on equity.
Let’s debunk a myth about growth companies. Cash quarters looking to rationalize their hoarding like to postulate, if you distribute cash to shareholders, does a bad signal that you are no longer a growth company because you have no good use for the cash? By first but is, doesn’t leading tens of billions of dollars accumulate on the balance sheet for years on end also reveal an inability to find good use for the cash? My second thought is, the battered to business the more likely it is to generate more cash than it needs. Access cash reflects the success of prior investments, which were made in the hopes of generating a lot of profits. When a business doesn’t require every penny to be reinvested, doesn’t mean the business can grow. It just means the growth of the business is limited by something other than cash.
Some businesses are very capital intensive. For those businesses, growth or lace closely with their ability to invest in fixed assets and working capital to fund expansion. Other businesses are not capital intensive. Their growth is limited by their ability to find customers or to innovate. Most successful IP driven businesses are in cash in excess of reinvestment needs, even during periods of strong growth. Their investments have more to do with brains than money. As Coke and IBM have shown for decades, cash distributors can still be great growth businesses. So, let’s look at Apple. Warchest, more like a war balked. Apple has by far the largest cash pile, $137 billion and growing rapidly. Cash represents nearly one third of its market cap.
Overseas cash, most of Apple’s c ash, $94 billion or 69% is now offshore and would require paying taxes to be brought on shore. That’s in addition to the other $43 billion it’s holding domestically. This counted PE, Apple trades at at an exceeding low PE, approximately 10 times current earnings and seven times net of the cash. When one third of your market cap is in cash, it means that two thirds of the price is in the high earning business and one third is in the under earning cash balance. Tim Cook has been quoted as saying that inventory in his business loses between 1% to 2% of its value every week. Think for a moment of the cash portion of Apple’s market capitalization as a nonproductive inventory that’s accumulating at an increasing rate.
Now, consider the cost of that inventory. Apple’s balance sheet is all e quity. This means that both the business and the growing cash pile are entirely supported by high-cost equity capital. Assuming a 10% cost of equity, the opportunity cost of the trapped buying cash is $9.4 billion per year and growing. The opportunity cost of the domestic cash is an additional $4.3 billion.
Combined, that is more than $14 per share in earnings per share. Apple can unlock value by either deploying the cash productively, returning the cash to shareholders or lowering the cost of capital that is supporting the cash pile. Apple has a number of ways it can return cash to shareholders. That’s look at for conventional alternatives. A one-time special distribution of excess cash, one-time stock repurchase using excess cash, a plan to use future cash to repurchase stock in the future, and an increase in the common dividend. Of course, I could do a combination of more than one of these, but for today’s print this, let’s look at them as separate options. To do a one-time dividend or a large one-time share repurchase, it’s good to know how much cash is available.
Apple Inc. (NASDAQ:AAPL) currently has $137 billion in cash, $94 billion of which is offshore. In these scenarios we assume Apple brands all its cash back to the US and pays the taxes for repatriating the funds. With $94 billion in foreign cash, taxed at 35%, there is $61 billion of cash on home. As the existing $43 billion of domestic cash for a total of $104 billion available. Please note that we are not advocating that Apple repatriated foreign cash. It affects, our proposal later on will show Apple does not need to do this. Obviously, Apple isn’t going to deplete it’s cash reserves 20, so we made some assumption about a large cash reserve.
