Is it possible to have too much cash? Clearly,
most of us would answer no. However, a busi-
ness views cash differently than either you or I
would. Naturally, a business needs cash to
develop and launch new products, expand mar-
kets, purchase plant and equipment, and ac-
quire other businesses. However, some
businesses have built up huge cash balances
beyond even these needs. For example, both
Microsoft CorporationandDell Inc. have
accumulated billions of dollars in cash and tem-
porary investments, totaling in excess of 60% of
their total assets. Such large cash balances can
lower the return on total assets. As stated by
one analyst, “when a company sits on cash
(which earns 1% or 2%) and leaves equity out-
standing..., it is tantamount to taking a loan
at 15% and investing in a passbook savings
account that earns 2%—it destroys value.” So
while having too much cash is a good problem
to have, companies like Microsoft, Cisco
Systems,IBM,Apple Computer, and Dell are
under pressure to pay dividends or repurchase
common stock. For example, Microsoft recently
declared a $32 billion special dividend to dis-
tribute excess cash to shareholders.
How does a company grow into such a suc-
cess that cash can actually be a problem?
Consider the story of Michael Dell. Dell began
the company that bears his name at the tender
age of 19 in 1984. The business began in his col-
lege dorm room with $1,000 of his own money.
Dell’s transforming vision was to sell comput-
ers directly to the customer, without the mid-
dleman. After experiencing initial success, Dell
knew he was on to something, so he said Good-
bye to school and dedicated himself to the busi-
ness. This initial idea is now the famous Dell
Direct® model, which became even more
powerful with the growth of the Internet. Today,
Dell Inc. is valued at over $90 billion. Moving
from $1,000 to $90 billion in 20 years, while be-
ing the best performing stock among large com-
panies during the last decade, is extraordinary.
How a company generates cash and uses
cash plays a critical role in the company’s
potential for success. As a result, understand-
ing a company’s cash flows is as important as
understanding earnings power. In this chapter,
we will illustrate how to determine and inter-
pret the cash flows of a company using the
statement of cash flows.Sources:Dominic White, “Still Logging on to Prove Folks
Wrong Despite a $13 Billion Fortune and Approaching Mid-
dle Age, Michael Dell Remains Eager to Defy Critics,” The
Daily Telegraph, September 18, 2004, p. 32; Marcelo
Prince and Donna Fuscaldo, “Cash-Rich Tech Titans May Not
Follow Microsoft’s Example,” Dow Jones Newswire, July 21,
2004.Dell Inc.
COURTESY OF DELL INC.