Why businesses have excess cash and what they should do with it
The value of a business does not take excess cash into consideration, as it does not impact the cash flow; excess cash is a cushion that can potentially reduce the risks involved in running a company (“Show us the money,” 2010). There are many reasons a business may have excess cash, including quick growth or development and operations departments that don't require high levels of spending, so the excess cash rapidly grows. Large cash reserves can have both positive and negative potential. While having cash allows for quick strategic acquisitions when necessary, it also has the capacity to lead executives toward careless business decisions (McClure, 2011). The study of finance specializes in weighing the pros and cons of such investment decisions, which include, but are not limited to, the following considerations.
The benefits of cash reserves
In general large cash reserves are considered a positive thing. They indicate that a company has strong finances and is performing successfully. Excess cash can allow companies to avoid the use of bank financing for growth and development of new areas. It also empowers companies to make rapid decisions involving finances when necessary, whether that involves purchasing a smaller competitor or providing financial backing for a potential ally or investment opportunity in the business world (McClure, 2011). In today’s competitive business market, having a cushion of excess cash can certainly be beneficial when it comes to unforeseen circumstances requiring immediate expenditures — businesses are in a stronger position when they do not have to rely on banks (“Show us the money,” 2010).
The negative side of excess cash
There can be some disadvantages to a stockpile of cash. Unexplained excess cash can lead to questions regarding a company’s accounting practices. And sometimes having cash at the ready makes it easier for companies to make poor business decisions such as purchasing or investing in unprofitable ventures. Lack of growth and investment in new opportunities can also be a more negative explanation for these reserves (McClure, 2011). Not to mention that the excess can negatively impact a company’s stock value, as it is difficult to give the extra money back to the shareholders since dividends are taxed.
Apple's controversial cash pile
Apple® has come under significant scrutiny for their large stockpile of excess cash and cash equivalents worth about $65.8 billion (Rusli, 2011). History has shown that Apple tends to have great returns on operating cash flow, and as a result often has excess cash. While most companies in this situation resort to buying back stock, this may not be the best solution for Apple. The market indicates that there is likely more potential growth ahead for the company, and getting rid of their stockpile would not allow them to put this money to good use. There is also the possibility that such a drastic measure would signal that Apple is running out of growth ideas. It remains to be seen what Apple will decide to do with their large pile of excess cash (Rusli, 2011).
Smart ways for businesses to spend extra cash
One of the simplest ways for companies to spend their surplus is to increase dividends, which is advantageous to their stockholders. Some other options for businesses looking to reduce their cash reserves are to buy back some of their own stock shares, invest it in other sound business ventures, or to simply put it back into the development of their own company (McClure, 2011). Philanthropic donations and charitable causes are also good options for companies with social impact initiatives. Aligning with a philanthropic organization could help a business with questionable financial practices improve their reputation with the public. For the benefit of both the company and the U.S. economy, businesses can also invest their surplus in new employees (“Show us the money,” 2010).
References
McClure, B. (2011). Cash: Can a company have too much? Investopedia.
Rusli, E. (2011, April 21). A shopping list for Apple’s growing war chest. The New York Times.
