Yes, companies can have too much cash. At first glance, it might make sense for a company to h🎐ave as much cash as possible; however, excess cash or cash kept without a use plan is not good for companies as it sends mixed signals to investors and causes companies to miss growth opportunities.

Good Reasons for Extra Cash

There are often good reasons to find more cash on a business's balance sheet than financial principles suggest is prudent. For starters, a persistent and growing reserve typically signals strong company performance. Indeed, it can show that cash is accumulating quickly enough that management doesn't have time to figure out how to𒆙 make use of it.

Highly successful firms in sectors like software and services, entertainment, and media do not have the same levels of spending required as ca꧟pital-intensive companies, so th🤪eir cash tends to build up.

By contrast, companies with high 澳洲幸运5开奖号码历史查询:capital expenditures, like steel producers, must invest in equipment and inventory that must be replaced regularly. Capital-intensive firms have a much harder time maintaining cash reserves. Moreover, you should recognize that companies in 澳洲幸运5开奖号码历史查询:cyclical industries, like manufacturing, have to keep cash reserves to ride out cyclical do🍬wnturns. These companies need to stockpile cash well in🍒 excess of what they need in the short term.

Bad Reasons for Extra Cash

However, textbook guidelines should not be ignored. High levels of cash on the balance sheet can signal danger ahead. If cash is more or less a permanent feature of the company's balance sheet, you should ask why the money is not being put to use. Cash could be there because management has run out of investment opportunities, hasn't finalized future growth plans, or is too short-sighted and hasn't figured out what to do with the money.

Sitting on cash can be an expensive luxury because it has an 澳洲幸运5开奖号码历史查询:opportunity cost, which amounts to the difference between the interest earned on holding cash and the price paid for having the cash as measured by the company's 澳洲幸运5开奖号码历史查询:cost of capital.

Bank accounts have very low yield rates, so if a company can get a 20% return on equity by investing in a new project or by expanding the business, it is a costly mistake to keep the cash in the bank. Additionally, if a project's return is less than the company's cost of capital, the cash should be returned to shareholders.

More often than not, a cash-rich company runs the risk of being careless. The company may fall prey to sloppy habits, including inadequate control of spending and an unwillingness to continually prune growing expenses. Large cash ho😼ldings also remove some of the pressure o🧔n management to perform.

How Companies Disguise Excess

Do not be fooled by the popular explanation that extra cash gives managers more flexibility and speed to make acquisitions when they see fit. Companies that hold excess cash carry 澳洲幸运5开奖号码历史查询:agency costs where they are tempted to pursue "empire building." With this in mind, be wary of balance sheet items like "strategic reserves" and "restructuring reserves," as they can be the rationale for st﷽ockpiling cash unnecessarily.

There is much to be said for companies that raise investment funds in the capital markets. Capital markets bring greater discipline and transpa🎃rency to investment decisions and so reduce agency cꦑosts. Cash piles let companies skirt the open process and avoid the scrutiny that goes with it, but usually at the cost of investor returns.

The Bottom Line

To play it safe, you should look at cash positions through the sieve of financial theory and work out an appropriate cash level. By taking into account the firm's future cash flows, 澳洲幸运5开奖号码历史查询:business cycles, capital expenditure plans, and emerging 澳洲幸运5开奖号码历史查询:liability pay♛ments, you can calculate how much cash a company reallꦺy needs.