Bond-backed stock buybacks remain in vogue
NEW YORK, Sept 6 (IFR) - Issuing bonds to fund share buybacks, a key theme in the US corporate market over the past 18 months, is unlikely to fall out of favor with corporate treasurers any time soon despite the back-up in rates which should, in theory, make such deals less attractive.
This week saw four retailers - Home Depot, Lowe's Companies, Kohl's and Macy's - issue bonds to at least partly finance share repurchases.
They follow a host of other issuers, including Merck and Viacom, that have both issued multi-billion bonds this year to boost their share prices.
With 10-year Treasury yields now flirting around 3% - their highest levels since July 2011 - some companies, especially those with low dividend yields, may find such deals harder to justify.
But for the majority, bankers say the number one priority is to appease frustrated shareholders, who have been placing increasing pressure on corporates to use the bundles of cash sitting on balance sheets to boost their returns.
"When rates go up, any kind of debt financing becomes less attractive, but on a historical basis rates are still very low," said Jim Turner, head of debt capital markets at BNP Paribas.
"If a company has debt capacity at its current ratings, and it makes sense from a capital optimization point of view, share repurchases with bond proceeds still make good sense."
Apple is regarded as the poster child for such deals, with some market participants expecting the company to issue as much as USD50bn of bonds over the next three years to finance share repurchases unless it employs alternatives to that program.
In total, US companies have announced USD309bn worth of share repurchases year-to-date, up from USD259bn for the same period a year ago, according to Thomson Reuters data.
Two other bankers that have worked on a number of these deals this year, said the trend was unlikely to stop dead in its tracks.
"If a company is able to issue a bond at a level where the after-tax basis still looks cheap to the dividend yield, then issuing bonds to fund share repurchases is attractive," one said.
Home Depot, for example, rated A3/A-/A-, issued its triple tranche USD3.25bn deal, split between a 2.25% USD1.15bn 5-year, a 3.75% USD1.1bn 10.5-year and a 4.875% 30.5-year, on Tuesday.
The order book was heard to be just shy of USD13bn, which is no surprise for a company that has weathered the economic downturn better than most of its peers, and is now benefiting from the recovery in the housing market.
Home Depot used just over a third of the proceeds, or USD1.25bn, to refinance more expensive 5.25% senior notes, but the bulk was for the company's well-flagged share repurchase program. As a result, even though the company's dividend yield is relatively low, the deal still makes sense for the issuer.
Home Depot repurchased USD4.3bn of common stock in the six-months to August 4, up from USD2.85bn for the same period a year earlier, as well USD3.2bn via two accelerated share repurchases in the first half.
The company's current dividend yield is around 2.1%. The average coupon on its latest bond issue, meanwhile, after tax deductions, is around 2.47%, according to the banker.
There's no denying, though, that Home Depot's debt financing costs, like all issuers, have increased over the past six months.
It paid a coupon of 3.75% on its 10-year this week, compared to just 2.7% on a similarly sized deal issued in April.
"100bp is a significant increase in the mindset of most corporate treasurers," said another debt capital markets banker.
"When you're locking in rates below 3%, bond-funded share buybacks look attractive, but as those rates start to rise, that needs to be weighed against other uses of capital."
The one factor that could well quash the trend is a rise in M&A, but even that, bankers say, is not on the horizon just yet.
"If a company is not using its debt capacity for acquisitions, then it is more likely to use it for share repurchases. So if M&A does pick up, we could see share repurchases fall," said Turner.
Verizon's acquisition of Vodafone's 45% stake in Verizon Wireless, has helped push worldwide announced M&A activity in the telecoms sector to USD231.6bn so far during 2013, its highest year-to-date level since 2006, Thomson Reuters data shows.
Announced M&A across all sectors now totals USD1.547trn so far during 2013, up 1% over last year at this time. But even at those levels, activity is still way below its peak.
"One of the factors that helped drive the Verizon deal, was the cost of debt. Bond supply has been predominantly driven by refinancings, and there's no clear signal yet that M&A is going to pick-up significantly," said another banker.
"Whether rising rates could be a catalyst for M&A remains to be seen."