Fed delay could spur more debt issues to fund share buybacks
By David Randall
NEW YORK (Reuters) - A record year for debt-funded stock buybacks may soon become even more rewarding for shareholders.
The Federal Reserve's decision to delay raising interest rates for the first time since the 2008 financial crisis will likely encourage companies to take out more debt to repurchase their own shares or issue special dividends before the end of the year, adding to the almost $1 trillion that companies were already on pace to return to investors this year, fund managers and analysts say.
That's because, with historically low interest rates now likely to extend to at least December, companies are "now in a sort of borrowing nirvana," said a bond strategist, who asked not to be quoted by name because he recently left one firm and has not yet officially started at his new position.
While there is no way to track debt taken out for share buy-backs alone, U.S. corporations have taken out $59.4 billion in debt this year - or about 8 percent of the total amount of U.S. corporate debt issued - to fund special dividends to shareholders, according to data from Dealogic. That is more than double the $28.4 billion issued for special dividends in 2014, which are another way that companies reward shareholders and tend to parallel buyback purchases.
Interest rates at near zero have increasingly prompted companies flush with cash to issue debt to fund share buybacks. Apple Inc, for instance, has issued $23.6 billion in debt this year despite having more than $200 billion in cash, part of its plan to buy-back up to $140 billion in shares by the end of March 2017. MetLife Inc., meanwhile, sold $1.5 billion in bonds in June to fund share buybacks, while having more than $10 billion in cash on its balance sheet.
Executives have several reasons to take out longer-term debt to reward shareholders now. A blue-chip company will likely pay about 2.2 percent interest on a 5-year bond while at the same time paying out about 3 percent in dividends a year, making it less expensive to buy shares outright, bond analysts said.
And, with pay and bonuses often tied to share performance, corporate management teams have an incentive to spend money to bolster share prices, especially in a time of slow earnings growth.
"On a short-term basis, buybacks create more demand even if the stock itself isn't all that attractive," said Howard Silverblatt, senior index analyst for S&P Dow Jones Indices. Continued...