Apple's cash position is plunging, and that is positive for both the business and the company's shareholders.
Some investors and Wall Street analysts think Apple has fallen to $48 billion as of June 2022 from $107 billion at the end of 2019 a decline of 55%.
According to a longstanding theory in corporate finance, companies with cash hoards don't perform as well as those with smaller savings accounts. The theory was laid out a number of decades ago by Michael Jensen, an emeritus professor of business administration at Harvard Business School. In a 1986 article in the American Economic Review, Jensen argued that companies would be less efficient if they hoarded cash above and beyond what was needed for current operations.
Jensen theorized that it encourages corporate managers to engage in foolish behaviors. Jensen believes that shareholders should try to motivate managers to disgorge the cash rather than invest it at a lower cost of capital or waste it on organization inefficiencies. That is the theory. Does it hold up in practice? I reached out to Rob Arnott, founder of Research Affiliates to get insight. Arnott was co-author of a study with Cliff Asness of AQR Capital Management in 2003, which provided empirical support for Jensen's theory. Their study, which appeared in the Financial Analysts Journal, was entitled Surprise! Earnings growth is higher if Dividends are higher. They analyzed corporate earnings growth over 10 years between 1871 and 2001 and found that earnings grew the fastest in the following years, in which companies dividend-payout ratios were the highest. Companies that hoarded their cash instead of distributing it to shareholders performed poorly, on average.
In an interview, Arnott said he believes the conclusions he and Asness reached two decades ago are still valid. He considers Apple's shrinking cash hoard to be positive for the company's future prospects.
What if Apple needed the cash it no longer has? Arnott said that the company would only need to approach the debt or equity markets to raise the cash, which it would have no trouble doing if it was going to use the cash for a productive purpose. Arnott said that market discipline and accountability is a key to why a small cash hoard is positive. There is no discipline or accountability with high levels of cash.
In any case, Apple doesn't appear to be suffering due to its diminished cash hoard. Since the end of 2019, return on equity has gone up to 163% from 55%, and it has fallen 55% in the last year. Over the same period, the stock has produced a 35.3% annualized return, which is more than 11.1% for the S&P 500 SPX. While the narrative may be that shrinking cash levels are bad omen, they appear to be a positive development. The investment implication is to dig below the surface when presented with such narratives.
Mark Hulbert is a regular contributor to MarketWatch. He can be reached at mark hulbertratings.com
More: Apple raised $5.5 billion in debt after upbeat earnings, iPhone sales offset fears of a consumer pullback.