The old adage that “cash is king” and you should “take money while you can” has been drilled into me for most of my career. This refrain served me well in raising public equity money in the 1980's, convertible debt in the 1990's, and VC and angel money in the years since. Given the crossroads our economy seems to be in as of mid-2010, I thought it would be useful to survey the macro picture for corporate financing to examine whether this continues to be sound advice.
On the bank lending front, although the Federal Reserve has doubled the monetary base since late 2007, U.S. banks have generally used this money to pile up excess reserves rather than to lend. In the realm of private companies, the latest survey update (June 2010) from the Pepperdine Capital Markets Project reports that over the last six months respondent banks declined over 70% of cash-flow based lending applications and 90% of real estate loan applications. Over 90% of the banks surveyed also believe they will see an increase in loan applications in the next year with a similar percentage indicating they expect interest rates to rise. As if this isn't enough, Basel III, the latest proposed banking rules, would require banks to hold and raise more capital thereby having a dampening effect on lending and economic growth worldwide.
Turning to the equity market, a recent report by Grant-Thornton (www.GrantThornton.com/IPO) indicates that the number of IPO's in 2009 was 61, up from 38 in 2008 but down significantly compared to over 500 per year in the decade of the 1990s. The report also indicates that the average deal size in 2009 was $140 million, a significant increase from deals commonly done 20 years ago. The authors point out that the deterioration in the IPO market has hurt small businesses by reducing access to capital and then propose an innovative solution through structural improvements to the equity market.
Meanwhile, in the corporate world companies are flush with cash. As of June 30, 2010, S & P 500 companies are now sitting on a cash hoard of over $800 billion, a record high amount. Google alone has stockpiled $30 billion with no announced plans for a stock buyback or shareholder dividends, to the chagrin of the writers at the Motley Fool.
So there we have it: a corporate world of the haves and the have-nots. While large public companies and banks are piling up cash, small businesses face tighter bank scrutiny and an anemic IPO market. In general, it would seem that for the majority of businesses, the cost of capital is going to increase as more companies crowd the market seeking new or rollover financing, as regulations increase, and as the expectation for an eventual increase in interest rates takes hold. Faced with low growth and continued uncertainty, cash remains supreme for businesses that look to thrive in this difficult economic environment.
Hi Michael:I disagree with your aynalsis of the decreasing capital reported by many of the US clearing firms. The clearing firms are not losing money (Gain being an exception). The owners are able to pull equity out since clients are migrating to non-US clearing firms. Less US client deposits = less capital needed. Many large firms are pulling their US capital to deploy it to their overseas operations.
Posted by: Francesca | May 07, 2012 at 12:59 AM