Reed points out that if you review 10-K reports for companies with lots of cash, they indicate that a disturbing percentage maintain maximum investment maturities of two years or less and average durations of two to three months. "These companies are either banking on a large outflow, or they're mismanaging a major asset," Reed notes.

Illustrating Reed's point, Bruce Bent II, president of The Reserve Fund, which has clients representing some 16% of the Fortune 100, says most corporate clients are investing their cash holdings in money funds. They're no more aggressive than in years past, he reports, despite the fact that they often have far more cash to contend with.

If treasurers are not going to extremes to maximize their return on corporate cash holdings, one reason may be philosophical. "Most corporate treasurers don't view their offices as profit centers," explains Henry Waszkowski, senior vice president and practice director at Wachovia Treasury & Financial Consulting. "They are very, very averse to policies that could lose principal. They may want to stretch out returns, but not to the extent that they might have to liquidate early and lose principal."

Lisa Rossi, U.S. head of liquidity management at Deutsche Bank Global Cash Management, agrees. A treasurer, she suggests, might get kudos for earning a few extra basis points on cash holdings, but would lose his or her job if the money wasn't there when the checks got cut. Still, she says, "It's possible to stay liquid and, with minimal effort or additional cost, still gain 10 to 20 basis points on allocated cash–all without increasing your risk." With several trillion dollars reportedly being held in corporate operating and reserve cash accounts globally at any given time, a 20 basis point difference can add up to a lot of money.

Long Live Cash

For close to a decade, many companies have relied on sweep accounts through their banks to literally "sweep" short-term cash into interest-bearing accounts (typically invested in commercial paper or federal funds) at the end of the day until needed the next day. Other funds can be swept into a term account in the morning, based on estimates of a company's daily cash needs. The difference between depositing such cash in the morning or at night can be significant–as much as five basis points–according to Rule. Many companies also cut deals with their banks to waive all fees and service charges on their checking accounts. Called an "earnings credit rate," such an implicit benefit can turn out to be better than the actual interest earned on a short-term money fund these days. But these methods essentially catch crumbs in terms of investment opportunities.

The more substantial efficiencies can only really be captured if a company has the ability to forecast cash requirements accurately. "When it comes to short-term investing, the only way to manage your cash flow in and out is through a complete integration of cash management and financial systems," says Deutsche Bank's Rossi. And improving that function more often than not requires investment in systems or software. Is it worth it? And will the so-called liquidity problem be around for a while? If the investment community has anything to say about it, it will.

Companies are acutely aware of the increased focus among analysts and investors on having cash and being smart about how it is used. According to an analysis by Standard & Poor's, the total amount of cash and cash equivalents held by the S&P 500 in 1996 was $1.2 trillion. By 2002, that figure had risen to $1.5 trillion, an increase of $300 billion, or 25%. Chris Wolf, head of equities strategy for J.P. Morgan's private banking unit, says he found that 400 of the largest U.S. companies he examined had added some $200 billion to their cash holdings just since the first quarter of 2001. More than half the companies he examined had strengthened their cash holdings over the period. Another study by the U.S. Commerce Department's Bureau of Economic Analysis shows that net cash flow of all American companies went from $748 billion at the beginning of 1996 to $986 billion at the start of 2003, a jump of $238 billion. "A lot of this is pressure from the ratings agencies," suggests Tobias Levkovich, a senior equities strategist at Citigroup Smith Barney. "Some companies have even been warned by the ratings firms not to pay dividends until they've strengthened their bottom lines."

Tech Discovers Cash

"I think there is a subtle shift going on in corporate America," says Wolf. "All through the recession, companies have managed to control expenses so aggressively that they were able to build up cash even when sales were flat." Even the technology sector, which only recently was famous for looking only at top line revenue growth–at least until the bubble burst, is now awash in cash. Anil Shivdasani, a professor of finance at the University of North Carolina's Kenan-Flagler Business School, says, "Investors are now paying higher prices for technology companies that are holding a lot of cash. Everyone's realized that even the slightest perception of a liquidity problem can lock you out of the capital markets."

In a study of 154 large technology companies, Shivdasani found that 12% had cash balances exceeding 60% of assets, while only 17% had cash balances of less than 10% of assets. Of the top 20 technology firms, only four–Hewlett-Packard, IBM, Sun Microsystems and Texas Instruments–had cash/assets ratios of less than 20%. Eight of the top 20–including Microsoft, Oracle, Apple and Analog Devices–had cash/equity ratios in excess of 50%.

Another sector where there has been a new focus on liquidity is the financial sector. Steve Linehan, treasurer of Capital One Financial Corp., says his firm decided in the spring of 2001, after watching competitors struggling with liquidity issues, to build up liquidity. "When you see your competitors having problems, you generally try to insulate yourself from the fallout," he says. After weathering an initial period of turbulence, he says Capital One has gone from $3.6 billion cash on its balance sheet in March 2002 to $6.3 billion a year later, not counting another $4 billion in asset-backed credits. "That," he says, "is four times the amount of debt we have coming due this year."

Humana, too, has come to see the benefits of cash. According to the Louisville health insurance firm's CFO and treasurer, James H. Bloem, who took his posts two and a half years ago, Humana has boosted cash from $88 million in 2000 to $166 million in 2001 to $302 million in 2002, and he projects cash for this year will total between $340 million and $370 million. "And we're doing that while holding capital spending constant, meaning free cash flow [cash flow minus capital expenditures] has risen dramatically," he says.

Keepers of the Cash

Bloem credits the current investment climate with making such a strategy possible. "I feel much less pressure now that people are focusing on capital adequacy and liquidity," he says.

This strong focus on the bottom line has lifted Humana into the investment-grade ranks. It also appears to have lifted the company's stock–from $10 at year's end to $14.80 at the end of June, a gain well above the overall market and the health-care sector.

Still, Bloem also must find smart places to put his new nest egg. Short term, he puts the funds to work in a portfolio of investments, all fixed-rate with maturities of 3.5 years or less. "We're constantly looking for investments that exceed our cost of capital," he says. "If we find 'em, we invest in them. Then, if anything's left, we repurchase shares." Last year, the company repurchased $100 million of its shares using excess cash. "It's sort of like scraping off the excess each year, so you don't lower your return," he says.

In some cases, companies have long favored strong cash positions. Microsoft, for example, has for years had strong cash reserves. As far back as 1996, when Microsoft sales were $9.1 billion and net income was just $2.2 billion, the company held $6.9 billion in cash and cash equivalents. "Microsoft has historically maintained a strong cash flow to allow for flexibility in operations and to fuel investments and acquisitions," says Treasurer Brent Callinicos. "The cash is there to fund the strategic goals of the company. Thereafter, we seek to optimize return via running a well diversified liquid portfolio."

The same is true for Sunoco, the Pennsylvania-based oil company. "It's in vogue now to have cash, but we've always been committed to maintaining liquidity," says Sunoco Treasurer Paul Mulholland. That's because of the cyclicality of commodity businesses, such as oil. "You can't control margins, but you can manage your cash, so you control the things you can control."

At the same time, Mulholland says it's possible to have too much of a good thing. "This is an industry that's still consolidating, so you don't want to pile up too much cash or you could become a target. All things in moderation."

—————

CASH AS CARROT

The more conservative atmosphere around cash has produced benefits to shareholders who have been pummeled by market volatility and weakness since mid- 2000. Share repurchases and dividend payments, the latter making something of a comeback after languishing in disuse in the go-go '90s, are proving popular as a way to burn off excess cash. Even Microsoft introduced a dividend program this year–initially paying $0.08 per share and then doubling it to $0.16 in mid September. "Considering your options–earning some low return or making an investment–paying a dividend makes sense," says Citigroup's Tobias Levkovich. "There's certainly no incentive to pay down debt at current interest rates."

Companies are also back in the market for strategic acquisitions. Office Depot, for instance, used its strategic fund stockpile to purchase Guilbert, a European office supply chain, for $900 million. "Now, we're in the process of rebuilding our cash position," says CFO Charles Brown.

At Sunoco, the so-called excess cash was used to buy 193 stations from Speedway for $140 million and a refinery from El Paso Gas for $130 million. The oil company also entered into a joint venture investment with Equistar for $200 million.

Says Humana's CFO James Bloem: "I think CFOs in general are now more mindful that it's not just earnings per share. You still have to put that part out there, but now you have to think also about your liquidity position. The public wants it."

And from the perspective of shareholder return, it's eminently clear why.