Large companies in the technology sector such as Apple (Nasdaq: AAPL) and Google (Nasdaq: GOOG) may not notice too much of an impact if the Federal Reserve decides to raise interest rates. These companies have substantial cash reserves and extremely successful business models. They are not reliant on debt financing. However, this may not be the case for smaller tech startups.
Smaller tech companies have enjoyed a steady stream of venture capital funding since the Federal Reserve lowered the federal funds rate to essentially zero. A number of private tech startups have valuations of over $1 billion. These startups have benefited from venture capital funds and private equity funds by being able to borrow money cheaply. Higher borrowing costs could have a more significant impact for startups.
Interest Rate Increase
The Federal Reserve, or Fed, has stated it will likely begin slowly raising interest rates in the fail of 2015. The Fed has kept rates at historic lows since the financial crisis of 2008. According to the Fed, low interest rates have helped increase the money supply and enabled banks and other financial institutions to increase borrowing to businesses and consumers. This has helped support the stock market and the values of individual homes.
The Federal Open Market Committee, or FOMC, is responsible for setting the federal funds rate. This is the overnight rate at which banks make temporary loans to each other. The federal funds rate is the key interest rate the Fed may raise starting in September of 2015. Many observers are attempting to predict what impact higher interest rates will have on the economy with the historic period of low interest rates coming to an end.
Large Cash Reserves for Tech Giants
Apple and Google are likely to not be directly impacted by higher interest rates due to their excessively large cash reserves. They are not directly depending on debt financing. Further, it is likely their business models continue to be successful for the foreseeable future. Their quarterly revenues appear to be stable for the time being.
Apple reported staggering cash reserves of $178 billion in the early part of 2015. Google has around $64 billion in cash. Both companies are able to make acquisitions of other businesses to expand their product offerings or begin ventures in new areas.
The only real impact raising interest rates could have is on revenues. If there is a trickle-down effect from higher interest rates that leads to consumers buying fewer iPhones or Android devices or businesses spending less money on advertising, then both companies could be impacted. However, this is only a secondary effect. The Fed has said it will not raise interest rates unless the economy continues to improve. Thus, any hiccups in the economy could cause the Fed to hold off on interest rate increases. Any impact on revenues appears unlikely at this point.
Impact on Startups
However, startups may not be immune from higher interest rates. Many of the exciting tech startups did not even exist in 2008 during the financial crisis. These startups have benefited well from venture capital funds. In 2014, tech startups raised over $48 billion from venture investors.
Tech startups have also benefited from nontraditional investors in the tech sector. With bond yields so low, hedge funds have been looking for alternative arenas to invest. The success of some tech startups has drawn this additional interest. However, if interest rates go up, more traditional investments may look better and offer greater certainty of returns. This could reduce the amount of funding for venture capital funds. Hedge funds may go looking elsewhere for their sources of alpha.
Tech startups have also relied on venture debt from banks willing to lend to them. If interest rates go up, the costs of borrowing increase. This may cause a greater number of failures for startups. Startups that are not focused on the interest rate issue may be in for a surprise.