These Tech Companies Are Stiffing Shareholders

On Monday, Eric Jhonsa asked Does Apple Really Need Its $40 Billion?, referring to the company's enormous cash balance,  and concluded that the answer is "no." But in the technology sector, Apple (Nasdaq: AAPL  ) is hardly an exception in that regard; indeed, hoarding cash appears to be the rule -- one that shareholders need to be aware of because it's costing them lost returns.

Here's the proof
You want proof of this phenomenon? I gathered balance sheet data for all companies in the S&P 500 in order to compare the cash position of those in the information technology sector with that of all the companies in the index (minus financials, which, by virtue of their heavily leveraged balance sheets, don't conform to this analysis). These are the results:

 

Cash and Short-Term Investments as a % of Market Capitalization, Average*

Net Cash and Short-Term Investments as % of Market Capitalization, Average**

S&P 500 Information Technology Sector

20%

7%

S&P 500, ex-Financials

13%

(24%)

Source: Author's calculations, based on data from Capital IQ, a division of Standard & Poor's.
*Latest quarter. **Net of all borrowings, including capital leases (fiscal year 2009).

The first column shows that tech companies' cash and short-term investments represent, on average, one-fifth of their market value, 7 percentage points ahead of the average non-financial. One might be tempted to think that higher cash levels in the tech sector are offset by higher debt, but the second column shows that simply isn't the case -- in fact, the difference in net cash position (i.e., after subtracting all debt) between the two groups is even wider. The average non-financial has a negative net cash position, while the average company in the information technology sector has excess cash on its balance sheet.

More cash, lower dividends
Despite (or perhaps due to) the fact that they are flush with cash, the market-value weighted average dividend yield of S&P 500 stocks in the information technology sector is 0.91% -- less than half the average dividend yield of all stocks in the index (1.92%). Here are a few companies that look like some of the worst "offenders":

Company

Net Cash and Short-Term Investments as % of Market Capitalization*

Dividend Yield

Novell (Nasdaq: NOVL  )

59.5%

--

Electronic Arts (Nasdaq: ERTS  )

46.1%

--

Dell (Nasdaq: DELL  )

26.5%

--

Motorola (NYSE: MOT  )

25.8%

--

VeriSign (Nasdaq: VRSN  )

19.5%

--

Source: Author's calculations, based on data from Capital IQ, a division of Standard & Poor's.*Latest quarter.

None of these companies pay a red cent in dividends, yet net cash per share represents a fifth or more of their value. And while a couple of these companies have had a few rocky years recently in terms of their ability to generate consistently positive unlevered free cash flows (Electronic Arts, VeriSign), (1) the lack of any dividend from these two companies predates this period, and (2) VeriSign hasn't been shy about putting up quite a bit of cash to repurchase its shares.

Where are the growth stocks?
I think this state of affairs is the result of a perception problem -- executive managements believe that paying a dividend is an admission that their stock is no longer a growth share, and won't, therefore, deserve a premium multiple. This perception issue finds an ally in financial theory, which dictates that retained earnings contribute to future earnings growth -- but that assumes they are reinvested at attractive rates, either internally or through acquisitions.

However, the average analysts' estimate of long-term earnings-per-share growth rate for information technology stocks is identical to the average estimate for all S&P 500 stocks (10.3%). Analysts don't appear to be giving tech companies any credit for their higher earnings retention rate, which suggests they don't believe the retained earnings will contribute to future earnings growth.

A no-dividend disgrace
After a decade during which dividends contributed more than 100% of the total return on stocks (the S&P 500 index declined), many tech companies should swallow their pride and imitate one of their sector's bellwethers, Microsoft (Nasdaq: MSFT  ) , which began paying a dividend in 2003. Not doing so is a show of disregard for their shareholders -- it's a great shame that institutional shareholders don't react accordingly by pressing managements to return some of shareholders' cash via special or ordinary dividends.

Are you interested in stocks that do reward their shareholders with a solid dividend? Here are six stocks that The Motley Fool's top dividend-focused analysts are watching.

Fool contributor Alex Dumortier has no beneficial interest in any of the stocks mentioned in this article. Microsoft is a Motley Fool Inside Value recommendation. Apple and Electronic Arts are Motley Fool Stock Advisor choices. Motley Fool Options has recommended a diagonal call position on Microsoft. Try any of our Foolish newsletters today, free for 30 days. The Motley Fool has a disclosure policy.


Read/Post Comments (8) | Recommend This Article (15)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 04, 2010, at 12:08 PM, cuy4me wrote:

    Quick question: If companies like Apple start returning cash to the shareholders via dividends, what happens to the value of the executives' stock options?

  • Report this Comment On March 04, 2010, at 12:52 PM, Wingsy wrote:

    So.... THIS is why it's called The Motley Fool.

  • Report this Comment On March 04, 2010, at 2:41 PM, JakilaTheHun wrote:

    Great article.

    From my viewpoint, I can't see the point in buying into mature firms if they aren't either (a) paying some form of dividend or (b) able to generate excess return for me with the extra cash.

    Some of these companies have become so large, that they are running into a growth wall and a dividend distribution would probably be a good thing --- but it seems like they convince themselves that a bunch of useless acquisitions are more beneficial to shareholders.

  • Report this Comment On March 04, 2010, at 3:14 PM, davion13 wrote:

    There's another company that fits the bill...

    BRK.A

  • Report this Comment On March 04, 2010, at 3:49 PM, TMFAleph1 wrote:

    @davion13,

    The difference between Berkshire and the average tech company is that Buffett is a proven master of capital allocation -- something that can't be said of the average CEO, in tech or elsewhere.

    Best,

    Alex Dumortier

  • Report this Comment On March 04, 2010, at 3:51 PM, TMFAleph1 wrote:

    @JakilaTheHun,

    Thanks for your kind words!

    Alex Dumortier

  • Report this Comment On June 25, 2010, at 3:14 AM, shownmichle wrote:

    I appreciate the concern which is been rose. The things need to be

    sorted out because it is about the individual but it can be with

    everyone.The initiative taken for the concern is very serious and need an

    attention of every one. This is the concern which exists in the

    society and needs to be eliminated from the society as soon as

    possible.

    ==================================

    <a href="http://newtechnologyera.com" rel="dofollow">New Technology</a>

  • Report this Comment On June 25, 2010, at 3:16 AM, shownmichle wrote:

    I appreciate the concern which is been rose. The things need to be

    sorted out because it is about the individual but it can be with

    everyone.The initiative taken for the concern is very serious and need an

    attention of every one. This is the concern which exists in the

    society and needs to be eliminated from the society as soon as

    possible.

    ==================================

    [url="http://newtechnologyera.com" rel="dofollow"]New Technology[/url]

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