Leveraged Recapitalization
Categories: Company Management, Bonds
The company's equity was flat. Its earnings were flat, but predictable. Each year, The Little Cable System That Could produced $20 million. It had 100 million shares outstanding and traded for just $2 a share. It had $40 million in cash and no more capital upgrades it needed to spend cash upon for the foreseeable future. So it decided to do a leveraged recap, wherein it would take out $100 million in debt, and just buy back its own stock, hoping to "force" the equity price upwards from $2 a share to $5, or maybe higher.
How do they do this magic? Well, on that $100 million of leverage, they hopefully buy back something close to 50 million shares, and their earnings just continue apace at $20 million a year. The new balance sheet shows $20 million in cash and $100 million of debt, or $80 million in net debt, which presumably the company will pay off in 4-5 years.
But now, with only 50 million shares outstanding and $20 million in earnings, the company earns 40 cents a share instead of 20 cents a share (and yes, we're ignoring interest costs on the debt here for now). But the company will have performed a leveraged recapitalization, taking their "under-risked" balance sheet and deploying it as a weapon on behalf of the equity holders to...grow, under the mantra, "I think I can grow; I think I can grow."
Ironically, the same phrase was the original marketing slogan for Viagra.
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Finance: What is recapitalization?34 Views
finance a la shmoop what is recapitalisation all right people think
nee capitalization you know in Jersey like when you owe the mob money at least [thug breaks knee with bat]
that's what it feels like if you're a common equity stockholder of a company [businessman with common stock]
that has been recapped well usually recapitalisation is a very kindly loving
politically correct term for a pal you're bankrupt you borrowed money you
promised to pay back and you didn't so now you're out and the lenders now own
your company buh and buy so typical recap comes from a company that was very
early stage and had preferred stock upon preferred stock from venture capital
investors sitting above their common in the priority stack and eventually the
company burned through eighty seven million dollars and it has just a [dollars on fire]
million bucks left in the bank and it built something out of that eighty seven [company logo graveyard]
million not quite worth putting here yeah but it might be worthy of a new
investment of say yo thirty million or more dollars but the marketplace values [money going into company briefcase]
this zombie company yes that's what they're called at a [zombie briefcase walking at night]
value well less than the eighty seven million that has been raised previously
so everything is marked down usually with a common in total being worth [store during closing sale]
something like one percent of the new company and that's oh so sad for the
founders because it was a hundred percent of the company the day they
started so they were recapped and lest more mature companies feel left out well
recapitalisation happens in later stage companies as well and the radio industry
famously took on too much debt in the late 1990s and then people stop [radio knob getting changed]
listening to Drivetime radio as cell phones and satellite radio intruded I
bring radio borrowed five billion dollars at seven percent to oh three
hundred fifty million a year and then when cash earnings fell well below that
number while the company had to recap its five billion of debt such that those
debt holders now own essentially all of I brain radio and hope to someday milk
enough cash out of it to get their principal back knowing and it'll likely [goat getting milked]
be a very low interest rate or a low return on their and
if a positive one at all hopefully that all made sense you the first time though
because well we don't have time here in this video for a recap