Tag Archives: Dividends

Record Numbers Of Companies Drown In Debt To Pay Dividends To Their Private Equity Owners, by Tyler Durden

One day many of the practices described in this article will be illegal. From Tyler Durden at zerohedge.com:

One week ago we used Bloomberg data to report that in the latest Fed-fuelled bubble to sweep the market, now with Powell buying corporate bonds and ETFs, private equity firms were instructing their junk-rated portfolio companies to get even deeper in debt and issue secured loans, using the proceeds to pay dividends to owners: the same private equity companies. Specifically, we focused on five deals marketed at the start of the month to fund shareholder dividends, which accounting for half of the week’s volume, and the most in a week since 2017, according to Bloomberg.

Now, a little over a week late, the FT is also looking at these dividend recap deals which have become all the rage in the loan market in recent weeks, among other reasons because they are “ringing alarm bells since they come on top of already high leverage and weak investor protections and against a backdrop of economic uncertainty.”

Having updated our calculation, the FT finds that in September a quarter (24% to be exact) of all new money raised in the US loan market has been used to fund dividends to private equity owners, up from an average of less than 4% over the past two years: that would be the highest proportion since the beginning of 2015, according to S&P Global Market Intelligence.

As we wrote a little over a week ago, while the loan market — where PE firms fund the companies they own by selling secured first, second, third and so on lien debt — had until recently not seen the same volume of issuance as other parts of the financial markets. That changed after the Fed stepped into the corporate bond market sending yields crashing to record lows, and forcing US investors into the last corner of the fixed income world to still offer some modest yields: leveraged loans. And since this is the domain of PE firms which desperately need to extract as much cash as they can from their melting ice cubes (another names for single-B and lower rated portfolio companies which will likely all be broke in the next 3-5 years), everyone is rushing to market with dividend recaps to pay as much to their equity sponsor as they can before the window is shut again.

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Another Sign of Rough Sledding Ahead: Dividend Cuts Surpass 2008, by Luke Kawa

From Luke Kawa at bloomberg.com:

Tightening credit puts pressure on companies to scale back payouts.

In 2015, equity investors looking for yield suffered death by 394 cuts.
Last year, the number of dividend reductions far surpassed 2008, according to Bespoke Investment Group, citing data from Standard & Poor’s.

The ratcheting down of payouts to shareholders is a function of weak commodity prices, sluggish growth dampening corporate profits, and a tightening of credit conditions. This combination—and in particular the stingier lending—could exacerbate the carnage already seen this year in financial markets, further dampening economic activity.

The number of payout cuts enacted was almost 100 more than at the outset of the Great Recession—a time when the implosion of Lehman Brothers Holdings Inc. caused equity markets to plummet in the later stages of the third quarter:

“Whenever you see comparisons between any period and 2008 it grabs your attention,” wrote Bespoke in a report published Friday. “Not to minimize the significance, but the peak year for dividend cuts was actually in 2009 when there were 527, and there is still a ways to go before we get there.”

Because of the stigma associated with cutting dividends, management is loath to go down that path unless the need is dire. The trend toward trimmed payouts hasn’t let up so far in 2016, especially among companies under stress from soft commodity prices. In recent days, ConocoPhillips slashed its dividend by 66 percent and Potash Corp. of Saskatchewan Inc. reduced its payout by 34 percent.

Meanwhile, Statoil ASA pledged to keep its dividend intact, opting instead to add debt while continuing to cut back on capital expenditures.

To continue reading: Another Sign of Rough Sledding Ahead: Dividend Cuts Surpass 2008

Cat Food Dinners, by Robert Gore

In the last days of the tech bubble at the turn of the century, companies announced stock splits and the price of their stocks jumped. Services would alert day traders of splits so they could pounce on the stocks before the uninformed masses. Why would a split have any effect on the price of a stock other than a directly proportional adjustment? (e.g., A two-for-one split should reduce the price of the stock by 50 percent.) Supposedly a split represented management’s confidence in the company’s prospects, or some such rah rah. And a pizza cut into eight slices represents more pizza than one cut into six slices. It was the craziness of the time. Ultimately, all those splits did was make stocks more affordable for day-trading greater fools.

It is the craziness of our time that stocks elevate when companies take actions—advertised as “shareholder friendly”—that harm the company and its shareholders: increasing dividends and buying back shares. A company pays the corporate tax on its profits. When it pays dividends, shareholders, unless they are tax exempt, are taxed on the distribution. If the company retained the money, it could be used for productive investment. Shareholders have bought ownership in the company because they believe the company’s management will generate a return. Investors buy Berkshire Hathaway stock because they believe Warren Buffet can achieve a higher return on their money than they can.

Warren Buffet believes the same thing. Berkshire Hathaway does not pay a dividend; Buffet keeps the money and makes more investments. The many fold increase in Berkshire’s share price over the years is testament to his success. Why invest in a company if the company is going to give your money back, and you pay taxes on the distribution? Some companies even borrow to fund such distributions. The company is depriving itself of capital that could be used for profitable investment, incurring a debt that will have to be repaid from future profits, and handing many of its shareholders a tax liability.

With share buybacks, the company pays out to shareholders who are either reducing their holdings or selling out completely. The company cannot figure out anything to do with its capital, so it speculates in the stock market. Berkshire Hathaway occasionally buys back its own stock, but Buffet says it does so only when he judges that the stock price is below its intrinsic value and his record is good. The herd of corporate managers, like the herd of investors generally, buy high. After five years of a bull market, stock buybacks set a record in 2014 and may do so again in 2015. By many time-tested measures, stock valuations are stretched, definitely not the stuff of glowing returns. The criticism about funding dividends with debt applies equally to funding buybacks with debt. Bondholders get the short end of the shareholder friendliness stick, as it reduces the company’s cash and creditworthiness.

Buybacks can also create a capital gains tax liability for selling shareholders. With both dividends and buybacks, not only may shareholders have to pay taxes, they must also figure out what to do with the proceeds. Spend the money? Stick it in CDs paying near zero interest? Buy stock in another shareholder friendly company that will end up returning their money?

Notwithstanding the costs to both shareholders and their companies, dividends and buybacks have supported stocks. Short term paydays outweigh longer-term considerations. The biggest fans of shareholder friendliness are corporate executives, whose compensation is often tied to the share price. Robert Prechter has noted that many practices deemed acceptable in bull markets become unacceptable in bear markets, with punishment meted out retroactively for the newly instated sins. Spending the company’s money and incurring debt to support the share prices and the value of stock options may, when the music stops, look questionable, venal, or outright criminal, depending on the severity of the next bear market.

If executives are put in the dock, they can claim the Federal Reserve made them do it. Its debt monetization and interest rate suppression have provided so much liquidity and driven returns so low that the honchos can argue they couldn’t do anything else with corporate cash but distribute it to shareholders or speculate on their own stock. For companies sitting on mountains of cash, that defense has exculpatory merit. Why leave an asset that earns next to nothing on the balance sheet? Furthermore, the stated aim of central banks has been to drive money into riskier investments; from corporations to seniors who cannot fund their retirements from “safe” fixed-income investments offering minuscule yields. Corporate executives, their high-priced lawyers will argue, were merely getting with the program, with their own enrichment an incidental consequence. Seniors have no high-priced legal talent to argue their case, but for many, if they don’t buy stocks and junk bonds and pick up some hours at Walmart, they’re looking at cat food dinners. Unfortunately, when this force-fed equity golden goose meets its inevitable end, pâté won’t be gracing their plates or those of millions of other Americans—they’ll be savoring Scrumptious Shredded Salmon or Choice Chicken Chunks.



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