Cash accumulation across US firms: a change at last?

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March 10th, 2015

The financial crisis that started in mid-2007 marked a change in corporate strategy worldwide. Over the last few years, most companies have redesigned their growth strategies and have attempted to control their leverage, combining cost optimisation with selling off non-core assets. However, the unclear trend in aggregate demand, uncertainty related to the economic cycle in general and highly accommodative monetary policies have been powerful reasons for companies to record growing cash surpluses on their balance sheets. The phenomenon of cash accumulation has been particularly noticeable in the US and raises the question of how this cash will be used now that the economy seems to be enjoying stronger growth.

A historical perspective of trends in liquidity (calculated as cash reserves and other liquid assets) in the US corporate sector shows an unusual upswing in the last few years. In 2014 this reached 11.9% of all corporate assets compared with 6.4% on average between 1995 and 2005. In addition to the above-mentioned factors which led companies to save as a precautionary measure, other tax and regulatory aspects were also relevant, discouraging firms from reinvesting their earnings. Specifically, the high cost, in corporate tax terms, of repatriating profits earned abroad has helped to increase the cash held by subsidiaries outside US borders. With the aim of easing the tax burden to some extent, one of the arguments put forward by corporate lobbies to the authorities is the negative impact of retaining earnings overseas on capital expenditure (capex), a variable whose weakness in the last few years has hindered economic growth in the US.

However, this tendency to accumulate cash could be starting to change. Better growth prospects globally, the strong recovery of the US economy and the stabilisation of financial risks are creating a new environment for business. According to the latest survey carried out by the Association for Financial Professionals on chief finance officers, US companies started the year with the firm intention to reduce the size of their cash surpluses. Although this is a recurring new year's resolution which has nevertheless not been kept, this time the resounding response would be in line with a change in trend in cash accumulation.

Also according to the survey's findings, such a shift would satisfy the demands of institutional investors (investment and pension funds, etc.) as the overwhelming majority would like to see cash being moved about more as it hardly generates any returns when held on balance sheets. The big question being asked by analysts and investors therefore concerns how companies might use their surplus liquidity. They have four main choices. Firstly, to increase capex, investing in the company itself in order to boost organic growth. Secondly, to carry out mergers or acquisitions. Thirdly, to improve returns to shareholders via dividends or share repurchases. And fourthly, to reduce medium and long-term debt. Surveys on managers and analysts show that they clearly prefer the first and then the third option, with the other two very much at a secondary level (except in specific cases). For the time being, the actions taken by US companies also seem to be leaning towards these preferences. The rise in capex is still modest (although promising) and deleveraging is very gradual (without a sense of urgency). However, the last few months have seen a notable increase in mergers as well as stock buybacks. This suggests that a shift by US companies towards less conservative liquidity strategies is underway, although it does not look like being aggressive in capex terms this year.