Apple Inc is the world’s largest
company by market capitalisation, with a value of nearly $800bn on 19 May 2017.
It does not produce most of the world’s smart phones, coming in a poor second
behind Korea’s Samsung, and it is not that far ahead of China’s Huawei in terms
of market share. Neither is it necessarily the biggest player in other consumer
electronics markets. But so far it has managed to corner the premium
section of these markets, managing to get enough loyalty from customers who
will pay a lot more for a product that is not so different from the (much)
cheaper ones that are not quite so ‘cool’.
That is principally why Apple,
with fewer than 120,000 staff and itself producing very little of the final
product that it sells to consumers, can be worth in capitalist markets so much
more than Foxconn. Also known as Hon Hai Precision Industry Co, the latter
Taiwan-based company is its main assembler, employing more than one million
workers, and is currently valued at a relatively minuscule $60bn in terms of
market capitalisation. In 2016, Apple’s operating income was
$60bn compared to some $4bn at Foxconn, endorsing the market valuation ratio
($800/$60bn).
These points are another sign of
the distortion of social value by imperialism, and another day I may write more
about the social and economic mechanisms behind this. For now, though, I want
to focus on the financial aspects of Apple’s business, mainly using information
from its latest annual report.
Most radical, critical
commentaries on Apple focus, reasonably enough, on how it uses cheap labour in
Asia to boost its profits. What I want to deal with instead are the details in
Apple’s accounts that show how its close integration with the world of finance
complements and reinforces its commercial power. For example, its use of bond
market issuance and equity buybacks to boost revenues for its investors; its
huge investments in financial securities, ones that rival the holdings of major
investment funds; its use of financial derivatives for both hedging and
speculating in financial markets; and its large cash holdings, which are
explained both by the nature of its business operations and by developments in
world markets.
Debt issues, equity buybacks
Apple has been one of the
corporations that has found it more advantageous for its shareholders to raise
cash via issues of bonds and other debt securities rather than to issue
new equity. Issuing new equity means that a given amount of profit has to be
shared between a larger sum of shares held by investors, potentially reducing
the rate of return for existing investors, and also their percentage holding in
the company unless they buy more shares. However, with interest rates on
corporate debt so low, it has made sense for Apple to issue debt, pay the
interest and use the new funds to buy back existing equity. Assuming
that the rate of return on its regular business was higher than the yield on
the bonds, this also helped to keep the payments to shareholders buoyant.
Apple repurchased common stock
in each of the 2014-16 financial years: 489 million shares in 2014, 325 million
in 2015 and 280 million in 2016. Share issues also took place in those years,
but they were small scale, only some 10-15% of the buyback totals. The net effect
was for the total number of outstanding shares to fall from 6.3 billion in
September 2013 to 5.3 billion in September 2016, a significant drop of 15% in
just three years.
Funds for the share repurchases
should be seen as principally coming from the debt issues, including short-term
commercial paper, although the numbers for the whole gamut of business
operations are interlinked. For example, Apple reports that in its 2016
financial year funds worth $29.7bn were used to repurchase common stock,
$12.2bn were used to pay dividends and the net proceeds from issuing
longer-term debt were $25.0bn.
The scheme of share buybacks
continues and, as of September 2016, ‘only’ $133bn out of a total of $175bn
authorised by Apple’s board had been completed – a total that was raised from
$140bn in April 2016, and could be raised yet again. In addition, Apple has
another element of this plan, something it calls a ‘capital return programme’,
which is expected to reach $200-250bn by March 2018. The missing element is the
(strongly implied) promise to boost dividend payouts. In 2013, total dividends
paid were $10.6bn, rising to $12.2bn in 2016. So, with the falling number of
shares, earnings per share have been rising rapidly: from $6.49 in 2014 to
$8.35 in 2016, a rise of nearly 30%.
This helps explain the
astronomical stock market valuation for Apple, one that has increased by some
60% over the past year. It can use the financial markets to boost the returns
to its owners, quite apart from the other commercial and political means
available to it as a leading corporate power. But what this really reflects is
the nature of moribund capitalism today. Having got in a pickle with a big drop
in operating income (down 16% to $60bn in 2016), and with net sales declining
by 8% in 2016 – led by a 12% slump in the value of sales for Apple’s main
product, iPhones – the company adapts to these setbacks more by financial
operations than by innovation or investment.
Investment in securities
While iPhones do not generate
for Apple as much revenue as before – just $136.7bn in financial year 2016
compared to $155bn in 2015 – the company has been able to depend upon its
financial investments to try and fill the gap. As of September 2016, it held
$20bn of cash, $47bn of short-term marketable securities and a massive $170bn
of long-term marketable securities, including US Treasuries and corporate
bonds. In 2016, these generated $4bn of interest and dividend income. In the
same year, Apple’s accounts also benefited from an extra $1.6bn of unrealised gains
on marketable securities it held.
Apple uses its subsidiary,
Braeburn Capital,
an asset
management company based in the low-tax US state of Nevada, to manage its vast
security holdings. These assets rival those of the biggest financial companies,
and Braeburn has been called ‘the world’s biggest hedge fund’,
and also the world’s biggest bond fund.
Another angle on Apple’s operations in this area is shown by considering its
financial dealings: in its 2016 year it bought $142bn of marketable securities,
received $21bn of funds from those it held that had matured and also sold
another $91bn of securities, no doubt keeping Braeburn’s dealers busy.
Compare these numbers to Apple’s
investment in research and development. In 2016, it spent $10bn, up from $8bn
in 2015 and $6bn in 2014. Big money, and big increases, but still pretty small
for a so-called IT company, given that it was less than 5% of total net sales
revenue.
Financial derivatives dealing
It is also worth noting Apple’s
involvement in financial derivatives to give an example of how all major
capitalist corporations use these, not just the supposedly peculiarly evil
banks. Apple, like other corporations, uses financial derivatives to hedge
against unfavourable moves in interest rates and exchange rates, and also for
more speculative purposes. Accounting rules try to separate the two uses, but
in reality there is no distinct dividing line.
In the case of derivatives used
for hedging, they may make gains or suffer losses. But these should roughly
balance the losses or gains on the underlying assets, liabilities or cash flows
that are being hedged by the derivatives. For example, if Apple owns a fixed
income asset (a corporate or government bond security), then its market price
will fall if interest rates rise. However, it could use financial derivatives
to hedge against this risk. It would take a derivative position (in swaps,
futures or options) whose market price will rise as interest rates rise, so
that it would generate a gain in its derivative position to offset the monetary
loss on the bond. It is a similar thing for foreign exchange exposures. Simply
put, if Apple’s US dollar-based accounts would be hit badly if the value of the
US dollar rises against the Chinese renminbi, the euro, or sterling and the
Japanese yen, then it makes sense for Apple to hedge the risk with derivative
contracts. It would take derivative positions whose value would rise as the
dollar’s value rises in the market, thus offsetting, or at least reducing, the
potential loss on its underlying business.
The basic idea behind hedging is
to offset the likelihood of a loss, but this usually also means giving up on
any further potential gains beyond what the existing structure of market prices
allows. For example, interest rates or the US dollar’s value might fall,
but the extra gains for Apple from these developments will be lowered or
eliminated if it hedges against their rise with financial derivatives.
The underlying business would gain, but the derivative contracts being used as a
hedge would show a loss, cancelling this out.
On 24 September 2016, the
notional value of foreign exchange derivatives contracts held by Apple for
hedging purposes was $44.7bn. There was also $24.5bn of interest rate
contracts. This gives a measure of the scale of the financial risk that was
being hedged.
So much for hedging. Speculation
with financial derivatives is also a possibility for large corporations. It is
one they often use, since their finance departments are commonly seen as profit
centres that also have to make a dealing profit in addition to playing their
financial function for the firm. Here the word speculation is not used for
these derivatives transactions, and they are put under the more polite
designation of ‘derivative instruments not designated as accounting hedges’. As
of 24 September 2016, Apple held a notional value of $54.3bn of foreign
exchange contracts under this heading.
In Apple’s 2016 ‘consolidated
statement of comprehensive income’, the accounts record that while it lost $734m
on its financial derivatives positions, net of tax, it gained a greater $1,638m
in the unrealised extra value of the marketable securities that it held. The
balance is not always positive – it was a negative $424m in 2015 – but that’s
just one of the risks of dealing in capitalist markets.
Big cash assets, but many
liabilities
Apple’s huge cash holdings have
gained a lot of attention. Not surprisingly, since at the end of its 2016
financial year it held a little over $20bn in cash and cash equivalents (meaning
cash and securities with less than 3 months to maturity), and another $47bn in
short-term marketable securities (less than 12 months). The other big chunk of
assets held consists of its long-term (more than 12 months) marketable
securities, at $170bn. These figures make Apple’s ‘property, plant and
equipment’ asset value of $27bn look like a very small part of its overall
business. More than six times the value of Apple’s ‘production’ assets is held
in financial securities!
But let us not ignore Apple’s
various liabilities. An implicit one, an obligation for survival not an
accounting item, is the need to keep shareholders happy with dividend payments
and share buybacks, as noted above. Then there is Apple’s formal accounting
liability resulting from its issuance of debt, valued at $75.4bn on 24
September 2016. These debts have to be serviced and eventually repaid. It also
had a ‘non-current’ liability of $36bn (mainly tax that was owed) and total
current liabilities of $79bn for accounts payable, accrued expenses, commercial
paper outstanding, etc.
Moribund Capitalism
It looks like Apple has a lot of
cash available, something that, in another universe, might enable it to reduce
its premium prices from their near-absurd levels or to pay more taxes. However,
when the full scope of its operations is understood, the constraints of the
capitalist market can be clearly seen. Apple’s business is not only one of
trying to secure its position in a segment of the consumer technology market.
More and more it has become a major financial player, and one that has run out of
ideas to develop its formerly core business. Instead it keeps its investors
happy with share buybacks and a ‘capital return programme’. It remains the
biggest capitalist corporation by market value, although as a monopolistic player it has a lack of
incentive to expand production. These features illustrate the moribund nature of
contemporary capitalism.
Tony Norfield, 24 May 2017
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