If you ever dreamed that the technology economy was a magical world of startups disrupting this or that sector, then get ready for a dose of reality. Fresh evidence that technology is consolidating around a handful of large companies comes to us via a report looking at the vast amounts of cash these giants are amassing.
According to a new report on corporate cash from Moody’s Investor Services, technology in general is the most cash-rich of all sectors of the U.S. economies. Tech companies are generating levels of cash without historical precedent. That tech haul is concentrated among five U.S. tech companies: Apple, Microsoft, Google, Cisco Systems, and Oracle.
In 2016, these five companies held $594 billion in cash, or 32 percent of all corporate cash in the U.S. This was the second year in a row that the top five companies were all from the tech sector, according to Moody’s. What’s more, that $594 billion was a new record for cash held by the top five.
Given that number five on that list, Oracle, had a $16.3 billion lead on the sixth largest, Johnson & Johnson, the expectation is that tech will maintain its stranglehold on the leadership board for some time to come.
Overall, the tech industry accounts for 47 percent of all corporate cash, up from 46 percent in 2015, a percentage that’s projected to rise again in 2017.
That left me wondering: What is it about tech that has made it such a cash machine?
In response to some emailed questions, Richard Lane, senior vice president of Moody’s Investors Service, pointed to three factors:
1. Strong business models: Simply put, the nature of tech is that after up-front investments, the winners see higher and higher margins of cash over time if they remain on top. And in tech, those on top increasingly tend to remain there. Toppling these giants is getting harder and harder. According to Moody’s report, there is simply no other type of business that is so well positioned to generate cash over the long run than tech.
2. Strong cash flow generation after investing in their businesses: While tech companies certainly have to spend a lot on infrastructure, on a relative basis, it’s still a lower rate than many non-tech businesses. That infrastructure spending, aka capital expenditures (or capex for short), is far more manageable to tech companies. As a result, they still generate a much higher rate of cash over their capex spending than any other industry.
3. Return less of their cash flow to shareholders compared to the rest of non-financial corporate sector: Despite more aggressive shareholder programs by companies such as Apple, which has massively increased its share buyback and dividend programs in recent years, tech overall tends to give less back. Even in the case of Apple, it’s financed many of these shareholder programs by massive amounts of borrowing. According to Moody’s, since 2012, the current top five cash holders accounted for 55 percent of the $393 billion in debt taken on by the entire tech sector. Apple is No. 1, having rocketed from zero debt in 2012 to $88 billion as of 2016. It added another $21 billion in debt the first six months of 2017.
These companies are borrowing both because interest rates are insanely low and because much of their cash is stashed overseas to avoid paying higher U.S. tax rates.
The bottom line is that these largest companies are building treasure chests that give them almost unassailable financial positions. In terms of resources to compete for talent, investing in research, making acquisitions, or unleashing a tidal wave of marketing, they are sitting pretty comfortably on their perches.
For this generation of startups, the size of the financial moat around these giants makes storming the castle gates nearly impossible.