Apple’s Got a War Chest of Cash

I’m not going to lie to you — this is going to get geeky. Not run-my-mac-from-the-command-line geeky, but more pocket-protector-and-green-visor geeky. I am an accountant after all. That being said, someone asked me the other day what the big deal was with Apple’s war chest.

For those who don’t know, Apple is currently sitting in Cupertino with a cool $12 billion in the bank. And if you throw short-term investments in the pot, Apple has quick access to $25 billion. That’s a TON of money — especially for a company with $32 billion in revenues. As a comparison, HP has about $15 billion in cash and $118 billion in revenues.

I began pulling Apple’s financial statements to see what I could find out about Apple’s “war chest,” as it’s being called, and found out some interesting things. But first, a quick lesson in financial ratios.

Cash flow ratios can be used to measure two things: sufficiency and efficiency. Sufficiency describes how cash meets a company’s needs and efficiency measures how well a company generates cash year-over-year and compared to other companies. One of the most popular sufficiency ratios is the operating cash flow ratio, a measure of how well current debt is covered by cash flow. If the operating cash flow ratio is substantially less than one or decreasing over a longer period of time then cash flow problems are likely. As you can see, Apple’s operating cash flow has only been getting stronger — indicating that the cash it’s bringing in every year is enough to cover all of it’s short-term liabilities such as payroll, inventory purchases, etc. But what’s interesting is what Apple has done with its cash through the years.

Apple’s History of Debt

A look at Apple’s key financial information shows that it took on $300 million of debt in 1994. Although I didn’t see any direct cause of the new debt, the low level of cash in the bank is a strong indicator that Apple took on the debt just to stay alive. You see, 1994 was a big year for Apple with the first commercial PowerPC product, the first PowerMacs, announcement of the Newton MessagePad 100 and 110, and the expansion of manufacturing operations with an addition of a 200,000 sq. ft. logic board manufacturing facility. All this growth takes cash, and Apple was burning through it quickly.

In 1996 Apple acquired an additional $650 million of debt bringing the total to almost $1 billion. This next infusion of cash was to buy a little company called NeXT, Inc. for $430 million, with a little extra to pay the bills. But as you can see in the graph below, starting in 1997 Apple began to make some money. But not in the way accountants and analysts prefer — net income and profits — but in cold, hard, cash.

Click to enlarge
Click to enlarge

It’s no surprise that the former “advisor” Steve Jobs became the “de facto head” of Apple at the same time the cash began rolling in. Immediately after becoming the de facto head of Apple in mid-1997, Jobs announced a Microsoft alliance which included a cross-platform license, $150 million invested in Apple stocks, and an undisclosed amount of cash for Apple (rumored to be $800 million). This proved to be just the boost in capital that Apple needed to get out of its rut and on its way to profitability and what I believe to be the reason Apple was able to avoid even more debt. It quickly ended or bought back its licenses from Mac clone manufacturers and in May 1998 announced the iMac and PowerBook G3. The iMac is often considered the key product that brought Apple out of obscurity and into mainstream.

So with Apple’s coffers growing quickly, Apple did what you and I should do when presented with excess cash — pay off debt. In 1999, with a cash balance of over $3 billion, Apple paid off $650 million in debt that wasn’t due until 2001. Why? At 6 percent interest, Apple saved approximately $4 million a year in interest alone. But Apple held on to the remaining $300 million until it matured in 2004. An internal memo circulated around the internet sheds some light on how excited Jobs was to finally pay off Apple’s remaining debt.

Today is a historic day of sorts for our company. When I arrived back at Apple in mid-1997, the company was burdened with $1 billion of debt. Through everyone’s hard work we turned Apple around, paid off the majority of our debt and began to amass a war chest of cash in the bank which has grown to about $4.8 billion! But there was still $300 million of remaining debt, which we decided to hold to maturity. Today we used $300 million of our cash to pay off this remaining debt. Apple is now a debt-free company – for the first time in over a decade! It sure feels good.

What To Do With All That Cash

Ever since 2004 Apple’s war chest of cash, and cash equivalents, has increased between 20 percent and 60 percent each year. The natural question of course is what Apple should do with all that cash. With no debt to pay back there are a few things it could do:

  • Redistribute the wealth to shareholders in the form of dividends
  • Increase production capacity
  • Acquire other companies and/or technologies

Dividends are out of the question — at least for the foreseeable future. Apple hasn’t paid dividends since 1995 and has always maintained the position that it will retain any earnings for use in the operations of its business.

Recent financial statements reveal that Apple has invested around $600 million in the last year alone in property, plant, and equipment. At least part of that is most likely due to new production facilities to build the new MacBooks and any other future “unibody” products. One thought is that if Apple could increase production capacity then prices could benefit. Personally, however, I think Apple enjoys its ridiculously high margins too much. I’m much more likely to bet Apple maintains current production capacity.

That leaves the most likely option — acquire other companies and/or technologies. New rumors are born every day concerning which company Apple will acquire but the fact is that with the current economy there are some great bargains right now, especially in the tech sector. Of course, I’d be happy if Apple could just hire someone to develop a cut and paste option that they would be happy with.