AutoNation Taking On $1.2B In Debt To Buy Back Stock (AN)

As a company, you have the choice between debt and equity to finance your growth or operations. Debt is great if you can borrow it, because you don't have to be public to get it, and you don't have to deal with shareholders and all the concomitant laws. On the other hand, you have to pay interest on the debt, so you have to have some stability in your operations, and if you miss those payments you might lose your company to the lenders. On the other hand, going public and issuing shares is sort of free money, if you can convince people to give it to you. The price you pay is compliance with all the securities regulations, and giving up some ownership.

But once you have that compliance in place, from a company perspective, stock seems much preferable to debt. Now there are always special cases, usually demanded by the market. For example, there may be no more market interest in a company's stock, but they are able to sell debt instruments to investors looking for income. There are also reasons to take stock off the market. The usual big two are 1) to either compensate for management giving away the company to employees or their buddies as options or stock compensation (essentially printing money, which they then must take an equal amount out of circulation to prevent inflation - for stocks, that's the price dropping); or 2) as a preamble to, or the act of, taking the company private.

Here's my question: what legitimate corporate purpose could possibly be served by a troubled company taking on debt to by back stock? That move deteriorates the financial integrity of the company, for almost no gain. It sort of smells of double-dealing for some ulterior motive other than the benefit of the company. Buying back stock is great. Taking on debt to do it isn't.

The WSJ reports that AutoNation (AN) will issue $1.2B in new debt to buy back 50M shares at $23/share. In other words, the company is shafting itself to benefit shareholders. All the debt rating agencies have them below investment grade already or will now lower their rating. It makes no sense until you read the last few lines of the WSJ article:

The company's largest individual shareholder, ESL Investments Inc., supports the buyback-and-debt plan.
Mr. Lampert's fund owns 77 million shares, a 29% stake, in AutoNation. Two members of ESL's management team are on AutoNation's board, including Mr. Lampert.

That debt is going to have pay one sweet interest rate to attract any buyers.

Here's another way to put it: A company can very plausibly structure its business to have little operational reason to care about its stock price. The stock can drop to almost nothing, and the company can still sell widgets. The stock price is a reflection of operations, not the other way around (except where it is used as a proxy for cash). On the other hand, debt is a constant operational burden, as servicing the debt requires cash flow. A company can not choose, during hard times, to ignore debt holders, but they can choose to ignore stockholders. So for a troubled company, debt is an operational burden, and stock is not. Yet AutoNation is choosing to take on an operational burden for no intrinsic operational benefit. Smells fishy to me.

Comments

[UserThunder...:]

A leap of faith?

Mar 16 05:56 PM