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Microsoft works cash harder

By Dina Bass
Bloomberg News

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The company's chief financial officer has generated a 7.3 percent average annual return on investments in the past three years. The gain is almost triple that produced by companies with more than $1 billion in sales, according to Chicago-based consulting firm Treasury Strategies.

Microsoft, with more cash than any U.S. non-finance company, has performed "pretty darned well" by investing more in stocks and bonds with lower credit ratings, Connors said

The high returns helped make up for some of the slowdown in sales that resulted from a drop in demand for computer software. Connors, 45, said he expects the investments to return as much as 6 percent for the fiscal year ended Wednesday.

The average U.S. company generated a return of 2.8 percent or less in 2003, according to a survey of 362 companies by Treasury Strategies.

"There's no free lunch — to get that kind of return there has to be higher risk," said Peter Tomei, Apple's senior director of capital markets at Apple Computer, which keeps most of its cash in money-market instruments.

Tomei invests $4.5 billion in money markets, which yield less than 1 percent. "When you have the kind of cash Microsoft has, you have to participate in everything in the market," he said.

Connors said some investors are pressing Microsoft to reduce the amount of cash by paying a larger dividend or repurchasing stock.

He plans to announce before a July 29 meeting with analysts whether the board has decided to lower its holdings.

"We don't invest in them for their money-management skills," said Marty Shagrin, who helps handle $50 billion at Keycorp's Victory Asset Management in Cleveland. "They've done a great job, but they need to distribute it back to us."

Connors persuaded Microsoft Chairman Bill Gates and Chief Executive Steve Ballmer to approve a plan to broaden investments soon after he became CFO in December 1999, said Brent Callinicos, Microsoft's treasurer from 2000 through April.
 
The company holds 70 percent of its portfolio in fixed-income securities, 10 percent in stocks and 20 percent in cash.

In March, Connors said the company had held about $6 billion in high-yield and emerging-market debt over the previous 18 months.

About a third of Microsoft's money is managed by outside firms such as Goldman, Sachs and BlackRock.

"The key thing we've got to do, is manage that portfolio in a way that the returns are good but not with a level of outsized risk that people say: 'Geez, I don't want you to be chasing that extra return at the risk of having something major blow up,' " Connors said.

Staff of 130

The 130-person treasury unit, run by George Zinn, a former hedge-fund partner who became treasurer in April, tracks the markets from a green-walled trading floor in Building 8 on the s Redmond campus.

Zinn, 39, said many staff members don't have prior Wall Street experience. One was hired from the University of Washington's computational statistics department, another has a Ph.D. in chemistry.

Said Connors: "I think the word on the Street is, 'Hey, this treasury group is really pretty darned good.' "

Connors entered the CFO's office three months before the Nasdaq composite index began a three-year slide. His predecessor, Greg Maffei, had made investments in companies Microsoft did business with, including AT&T and Telewest Communications.

Connors, a Montana native who attends the annual Bucking Horse rodeo in his hometown of Miles City and decorates his office with posters of grizzly bears, sold many of those investments and wrote down $10.3 billion in 2001, 2002 and 2003.

Connors says Microsoft's cash investments outdid those of peers by holding a "higher concentration" in interest-bearing assets that grew as rates declined.

Microsoft's treasury operation buys stocks through index funds rather than picking individual stocks. It also avoids becoming "too concentrated in any single position" in the corporate debt market, Connors said.

Investors in Bill Gross' Pimco Total Return Fund, the world's largest bond fund with more than $73.4 billion under management, earned about 1 percent in the year through Wednesday, including dividends reinvested. In the prior 12 months, they would have made 11 percent.

The S&P 500 index lost 1.5 percent in the year through June 30, 2003, and earned 17 percent in the 12 months through Wednesday.

High-yield bonds returned 12 percent in the year through June 30, 2003, and 12 percent in the 12 months through yesterday.

Intel Chief Financial Officer Andy Bryant, with $15.7 billion to manage, and Tomei of Cupertino, Calif.-based Apple said they typically put their cash in money-market funds, which generated returns of 0.63 percent last year, the lowest in two decades.

Bryant, who listed Connors among the CFOs he most respects, and Tomei declined to comment on their returns, except to say they were lower than Microsoft's.

Matthew McKenna, senior vice president for finance at PepsiCo, was among five judges that awarded Microsoft the 2003 Alexander Hamilton Award for Overall Excellence given by Treasury and Risk Management magazine.

"Those are great results — very impressive," McKenna said. He didn't say what returns PepsiCo earned on its $2 billion in cash.

Connors said Microsoft is willing to take more risk to increase returns.

The company in 2002 started buying junk bonds, the highest interest-paying, yet most risky, investments.

"Spreads got so wide between high-yield and corporate-investment securities that you could look and say, man, this is a no-brainer," Connors said.

In October 2002, corporate-bond spreads — the premiums paid to investors to hold high-risk debt — widened to the highest level in a decade after the bankruptcy filings of companies such as WorldCom and Enron.

Derivatives put to use

Microsoft also uses derivatives, financial instruments whose value is based on and determined by another security or benchmark, said Callinicos, the former treasurer who now runs Microsoft's licensing business.

"Derivatives are like junk bonds," he said. "Risky by themselves but very efficient tools when blended appropriately into a portfolio."

Microsoft isn't likely to shift investments based on swings in bond and stock markets, Callinicos said.

The company kept allocations little changed even as the bond market had its worst quarter since 1980, based on Merrill Lynch's Treasury Master Index.

"It's not about swinging for the fences," said Callinicos, a 39-year-old South African-born vice president who joined Microsoft in 1992 as a financial analyst. "This is corporate money we are talking about. We aren't a hedge fund or an equity fund."