Thursday, July 26, 2007

If Leveraged Buybacks, Why Not Leveraged Dividends? / Kasriel

Kasriel from Northern Trust asks the right question. The management will be forced to do more "bondholder value" management. I recommend to read the Expedia story to see how the sentiment has collapsed within 3 weeks.

Kasriel stellt hier eindeutig die richtige Frage. Das Management wird sich zukünftig wohl immer mehr um die Belange der Anleihebesitzer kümmern müssen. Ein gutes Beispiel wie schnell die Stimmung gekippt kann man am Beispiel von Expedia sehen.

The equity investing community seems to get giddy when it hears the words "stock buyback." And why not if the stock is being bought back out of current profits? But what if the corporation is increasing its debt to fund its stock buybacks?

The chart below suggests that is what is occurring now and what occurred in the late 1980s and late 1990s. The red bars in the chart represent the dollar amount of the net issuance of equities of nonfinancial corporations. Readings below zero, which predominate, signify the net "retirement" of equities. As the chart shows, record amounts of nonfinancial corporate equities are being retired in this cycle. The blue line in the chart represents nonfinancial corporate borrowing as a percent of their nominal capital spending. If the percentage is rising, as it is now, then this indicates corporations are borrowing for purposes other than to fund their capital spending. If corporate borrowing is rising relative to capital spending and corporations are retiring equity, then it is likely that they are borrowing to fund their share buybacks.

Equity investors do not seem alarmed that corporations are leveraging themselves to fund stock buybacks. Would corporate borrowing to increase dividend payments be greeted equally as gleefully?

As an aside, with some risk starting to be priced into the credit market, funding stock buybacks via borrowing is getting more expensive. Ask Expedia . It recently had plans to buyback 42% of its shares, predominantly with borrowed funds. But with the credit markets having turned more discriminating in recent weeks, Expedia has scaled back its repurchase plan to only 8% of its shares.
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2 Comments:

Anonymous Anonymous said...

Can someone pls explain the logic of this stock buybacks? Why should a corporation increase its debt to fund buybacks?

12:49 AM  
Blogger jmf said...

Moin,

because they are under pressure from "investors" like hedge funds to "optimize" their capital structure.

Translation:
Pump the stock to please the short term speculators and to give management an opportunity to dump their own stocks

After the dot.com bust management was under pressure to please the bond investors.

I think this style called "bondholder value management" will replace the "shareholder value management"
we have seen the past years.

1:05 AM  

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