Recession Has Bernanke, Greenspan Agreeing Companies Have Cash
By Rich Miller
The U.S. economy has what Alan Greenspan calls one ‘‘major advantage'' as it falls into a recession: Businesses are in far better financial shape than they were entering the past two contractions.
Corporations outside of financial services -- from Cisco Systems Inc. to Coca-Cola Co. -- have collectively socked away more than half a trillion dollars in cash. They have also reduced short-term debt and cut inventories to record-low levels in relation to sales, leaving them better prepared than in the past to weather a contraction.
‘‘We still have what, at the moment at least, appears to be a reasonably good real economy, as distinct from finance,'' the former Federal Reserve chairman said at an April 8 conference sponsored by Deutsche Bank AG and co-hosted by Bloomberg.
The current Fed chief, Ben S. Bernanke, sees it much the same. On April 2, he told lawmakers that aside from the banking and securities industries, corporate balance sheets are sound -- a ‘‘positive'' for the economy.
Greenspan describes a ‘‘tug-of-war'' between healthy non- financial companies on one hand and the crippled credit market and housing industry on the other. He says he isn't sure which will prevail, and the economy might continue to struggle well into the second half of the year.
Greenspan's tug-of-war is evident at General Electric Co. The world's third-largest company last week reported its first quarterly profit decline since 2003 as disappointing earnings from its commercial-finance unit outweighed strong revenue from large-equipment manufacturing. Fairfield, Connecticut-based GE forecast a drop in financial earnings for the year and a gain of 10 percent to 15 percent in profit from other parts of the business.
Non-financial companies are well-positioned now because they kept firm control of spending during the expansion. That means ‘‘there should be less of an imperative to reduce costs by cutting back on staff and capital spending,'' says John Lonski, chief economist at Moody's Investors Service in New York.
Behind the restraint are company executives' memories of the collapse in profits in the 2001 recession, when operating earnings per share for the Standard & Poor's 500 fell 30 percent.
‘‘They really got hammered in the last downturn,'' says Nariman Behravesh, chief economist at Lexington, Massachusetts- based Global Insight. ‘‘They learned their lesson.''
One advantage for businesses this time is what Lakshman Achuthan, managing director of the Economic Cycle Research Institute in New York, calls ‘‘premature pessimism.''
‘‘The forecast demise of the
Manufacturers in particular have responded by keeping inventories in check, Achuthan says, removing about half of what he calls the ‘‘recessionary impulse'' of steep cuts in stockpiles that occurred during past declines.
Companies were rewarded for their discipline with 20 consecutive quarters of double-digit profit growth that ended only in the middle of last year. As a result, industrial corporations in the Standard & Poor's 500 have amassed $615.5 billion in cash and cash equivalents, says Howard Silverblatt, senior index analyst at S&P in New York, compared with $352.4 billion in 2001 and $95.5 billion at the time of the 1990-91 recession.
Irving, Texas-based Exxon Mobil Corp., the world's biggest oil company, leads the pack with $34.5 billion, followed by New York's Pfizer Inc., the world's largest drugmaker, with $25.5 billion, and San Jose, California-based Cisco, the world's biggest maker of computer-networking equipment, with $22.7 billion.
The cash hoards mean companies aren't so dependent on battered banks for money to finance their operations. Debt as a percentage of net worth for non-financial companies outside of farming was 61.3 in the fourth quarter of last year, compared with 68 at the start of the 2001 recession and 93.6 in the 1990- 91 contraction, Fed figures show.
‘‘Cash flows are more than adequate, and the amounts of monies that they need are very readily financed in the weakened credit markets,'' Greenspan said at the April 8 conference.
That should continue this year, helping to limit the drop in operating profits for the S&P 500 to about 1 percent in 2008, says Steven Wieting, managing director of economic and market analysis at Citigroup Global Markets in New York.
The restraint companies showed means they may find themselves saddled with less excess capacity and fewer surplus workers than in past recessions. Investment in buildings and equipment grew at an annual 3.3 percent during the expansion that began November 2001, compared with 7.8 percent in the 1991- 2001 upswing and 4.6 percent in the 1982-90 recovery.
‘‘The non-financial corporate sector had a very cautious expansion,'' Wieting says.
Some companies are even adding capacity as the economy slows. Corning Inc., the biggest maker of glass for liquid- crystal displays, intends to increase capital spending this year to between $1.5 billion and $1.7 billion from about $1.2 billion last year. The Corning, New York-based company is boosting production of screens for large flat-screen televisions.
Companies have also been conservative about adding workers, especially at the start of the expansion. Nonfarm payrolls have grown by an average of 86,400 a month since November 2001. In the two previous periods of growth, the monthly gains averaged 196,750 and 224,510.
What's more, ‘‘most firms have been able to avoid unwanted buildups in inventories,'' Bernanke told the Congressional Joint Economic Committee on April 2. One indication is a decline in the inventory-to-sales ratio, which measures how long it would take companies to sell stockpiles they have on hand. The ratio showed a 1.25 months' supply in January, matching a record low, and down from 1.3 months a year earlier.
In the run-up to the 2001 recession, the ratio rose to 1.44 from 1.39. It was 1.53 at the start of the 1990 contraction.
Like Greenspan, Silverblatt of S&P says the overall health of non-financial businesses doesn't insure the economy will have a quick recovery. Indeed, business bankruptcies increased 16 percent in the first quarter, according to court records compiled by Jupiter eSources LLC. And the total of distressed corporate bonds, an indicator ofpotential bankruptcies, jumped to $206 billion this year from $4.4 billion last March, according to a Merrill Lynch & Co. index.
While non-financial corporations are still ‘‘in the best position they've been in years to ride out a storm,'' Silverblatt says, ‘‘the question is, is it a storm or a hurricane that we're in for?''