top of page

Technology Companies: The Next Global Financial Crisis?

Over the last two decades, technologies have become the most profitable industry in the world, but still the least regulated. For instance, Apple reached a market capitalization of $1.16 trillion, becoming the world’s most valuable publicly-traded company, gaining 65% in 2019; however, policy proposals to regulate big techs are not as strict as in other industries. Since 2000, globalization took place in the market, along with improvements in technology and communication. Enterprises such as Google were the first companies to reach high market shares, and their power has increased progressively. As such, the industry of technology firms took more control even though it caused adverse effects in the market. Also, the reputation of technology companies is strong, which makes tech companies attractive for investments. However, technology companies are certainly outperforming equity and part of their earnings comes from offshore portfolio profits, which is creating financial distortions that can lead to a financial crisis.


In the last years, there have been two big economic crises, both mainly driven by asymmetrical information and misleading financial management. The first crisis was the dotcom bubble, in which the internet flourishment triggered overvalued speculations about stock prices of technology companies. It created uncertainty about the ability of firms to generate profits from the network, spreading panic, causing the stock market value to become worthless by the end of 2001. In 2008, a bigger financial crisis in the subprime mortgage market led to several consequences in the world. Excessive risk-taking by U.S. banks to get higher profits and lending mortgages to risky borrowers triggered a collapse in the world banking system. Before the crisis, banks were left to manage the financial market to create improvements in the economy, with a smaller regulatory system to control the market. As a result, it generated moral hazard problems in the banking sector, such that they became “too-big-to-fail”. Governments could not manage the adverse consequences driven by the banking collapse. In the same way, in the last decade, the economic recovery from the last crisis enabled technology corporations to increase their profits, but this was highly, at the expense of debt.


Products and services, innovation, governance, and the amount of revenue and stock prices are some of the dimensions that have played an essential role in the reputation of technology enterprises in the last decade. Thus, tech firms have gained a huge power in the financial market implementing economies of scale and product differentiation as well as barriers to entry. However, it makes it very hard for startups to grow in the market, which declines job creation and overall demand, thus also decreasing national income. The concentration of power in a handful of multinationals makes it essential to take on significant amounts of debt to compete in the streaming video and digital media environment, which is constantly innovating.


The financial statement is another remarking aspect of the performance of technology companies. The enterprises hold outstanding market capitalization values, and their stocks are highly-priced. Indeed, multinationals such as Apple, have gained a big part of the market share through debt to buy back stocks and increase their prices in the market.  Enterprises have an extreme competition level to reach more power, getting more debt and also parking high amounts of money in misleading long-term highly yielded investments. For instance, Apple had long-term investments of $105.3 billion until September of 2019, and a leverage ratio MRQ of 2.47, which means that debt is 2.74 times bigger than equity. As such, expected future earnings are incentives for tech companies and investors to take even more risks to earn better profits.


The power of multinationals in the technology industry is progressively increasing as they are the least regulated industry worldwide. Corporations are using their lobbying muscle to avoid regulation, which can wreak financial havoc in the world market since technology corporations are a powerful industry. Big techs, in the same way than banks, have complexity in their operations. The algorithmic use of data can be used to hide risks and important evidence about the origin of the profits, causing information asymmetry and moral hazard in the financial market. As such, it is very difficult for governments to determine the value of distortions from tax avoidance and offshore investments that count as welfare loss from taxation. For example, Apple holds around $210 billion in cash on hand, but it also has a debt of $108 billion due to different factors, such as having offshore portfolio investments during the past ten years. This situation was originated because back then, interest rates were much lower, and the Central Bank provided accessible loans. For instance, enterprises got cheap loans to buy back stocks and pay out dividends, which soared corporate stock prices and shareholders’ dividends. Yet, it brought fewer improvements in the real economy because enterprises increased their equity through more debt rather than by, for instance, net income.


The tax cut law implemented by Trump’s government increased controversy about tax contributions of corporations in 2017. The reduction of taxes was from 35% to 17% to attract investment and to improve their equity values. For instance, Apple invested $43.5 billion in buy-backs in six months with the money saved due to tax cuts. On the other hand, the company has not done well reducing its debt since it cannot bring back profits from offshore portfolios easily due to U.S. regulations for global income. More debt is needed to pay current dividends and invest in innovation to have a better performance of human capital and machinery, increasing productivity to cope with the constant competition in the industry.


The intangibles of companies, such as data and intellectual property, are not tied to physical locations. Thus, tech companies are abler than firms in other industries to move business abroad. However, it causes disequilibrium in the economy because the intangibles of companies such as Apple are located in offshore countries. Furthermore, the company holds more wealth in data, human capital, patents, and software, that do not necessarily need to be tied to physical locations. Income from intangible assets is, however, hard to move to the United States. The tax regulation in the country can take a considerable part of the earnings as well as it can be necessary to sell some offshore portfolios throughout the process.


Some of the debt is getting unstable, which amounts dwarf the level of debt of banks in the global crisis of 2008. It shows that the next financial crisis probably will not come from banks but rather from the corporate industry. Indeed, in the last decade, the worldwide economy improved and technology companies benefited by that situation. In that sense, debt played an important role in the development of the stock and bond market. Even the smallest and less profitable companies took on loans to improve their performance. Nevertheless, if interest rates eventually increase, it will affect the capacity of companies to make debt payments. Loss and ripple effects can trigger bigger negative consequences than usual in the economy, given the power that the technology industry has in the financial market.


Comments


bottom of page