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Tuesday, April 20, 2021

The President’s Advice to Apple

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There are no easy answers when a company has $421 million in debt. President Trump commented Sunday that Apple CEO Tim Cook’s suggestion that the company will pay off the debt on its balance sheet is “a peanut,” and he did not offer specific suggestions for how to pay off the debt. “It’s peanuts,” he added.

The first thing that must be done is to reduce the amount of debt Apple holds. After all, when Apple went public, it borrowed $234 million in a 28-year bond at 5 percent. Then again, the head of Apple, Steve Jobs, frequently touted the importance of capital allocation, and the fact that Apple was not heavily leveraged during its early years gave it a unique advantage. Jobs cited this advantage when he informed Apple’s bankers during a 1997 meeting that Apple was considering putting itself up for sale. “I don’t need $1.2 billion to run the company,” Jobs told them, according to a 1997 Fortune profile of him.

Apple’s debt was a problem. It meant that the company sometimes did not have enough cash to make payroll or pay bills in some quarters, according to Bloomberg, which reported in 2012 that Apple’s debt would “increase in value faster than earnings because Apple must continually refinance debt and pay higher interest rates.”

Before the iPhone and iPad were released, Apple’s debt stood at less than $6 billion. So after the success of the iPhone, the debt ballooned. From 2011 to the end of 2012, Apple’s debt increased to $90 billion. It increased another $15 billion in 2013. It took Apple almost three years to pay off the entire $90 billion debt from 2011 to 2012, according to Bloomberg.

Today, Apple has $374 billion in cash, no debt and no hint of looming fiscal problems, including the debt that it amassed. Its debt is a good problem to have, but the debt has a lower return than cash and a higher expense than revenue. If Apple can find a way to return more cash to shareholders, it would be a major win for investors.

Just as important to Apple is the fact that it has a giant cash hoard. That hoard of cash might be large but it is minimal when compared to Apple’s revenue, market cap and net income, and that hoard also has value. It is unlikely that Apple will need to pay dividends on the money that it has on its balance sheet. But increasing the amount of money Apple pays out in dividends has the added benefit of making it easier for the company to keep an eye on the health of its cash holdings. Apple can no longer spend all of its cash in one go on mergers and acquisitions without a plan in place to convert it into cash once that big acquisition is done.

If Apple actually has a few billion dollars in unused or undistributed cash, it can do two things to try to find the money. It can buy back shares of its stock, which at a price just below $200 per share would reduce the number of shares outstanding, which would increase the value of that cash. Or it can borrow more money. It can pay higher interest rates and extend the time it has to pay off its debt.

It is unclear if Apple will lower its leverage. But if Apple wants a lower debt load going forward, it can do so with a lower interest rate and longer time to pay it off, without having to pay such a large sum in the first place.

And while the debt made Apple leaner and more capable in the early years, over time, high debt makes companies more vulnerable to major swings in their fortunes. While the debt may have made Apple leaner, the debt also makes it more vulnerable. As debt is reduced or eliminated, Apple can become even leaner.

The Trump administration and its economic team have found ways to reduce deficits, but somehow they can’t seem to figure out how to deal with Apple’s debt or improve the company’s operating results. Trump is a famous deal maker, but he is being outmaneuvered on a company level. Apple has leverage that he does not have. His advice is for Apple to borrow a lot less. But it should borrow more, and a lot of it, and focus on cutting costs and slashing debt instead of speculating about the future of an anemic stock market.

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