This week, General Electric (GE) sold $7 billion of bonds, at an average yield of 2.58 percent, or roughly ten percent below the average rate paid by domestic investment-grade issuers. The company will use the funds to satisfy already existing debt at higher rates. The low rate can be seen as a sign the bond markets welcome GE debt. The company will likely issue more bonds in the coming quarters, as more existing debt obligations come due.
The average yield of 2.58 percent is composed of $2 billion in 3-year paper at 0.85 percent, $3 billion in 10-year bonds at 2.7 percent and $2 billion in 30-year bonds at 4.125 percent. While GE itself has issued few bonds since the markets entered the financial crisis in 2008, GE Capital, the conglomerate's financial business, issued over $20 in the past year.
The parent company appears more interested in refinancing its maturing debt obligations rather than use some of the nearly $75 billion in cash it reported holding last quarter, or some of the $19 billion in free cash flow GE estimates for 2012. With historically low interest rates, it would appear somewhat reasonable for GE to take advantage of its credit quality and roll over its debts. Moreover, it is likely comforting to management that GE is capable of borrowing for 10 years at a rate below its present 3 percent yield on shares.
This move may also signal that a dividend increase is coming. Since the company is capable of refinancing its debt at lower rates, it may choose to pass on some of that savings to shareholders. After reducing its quarterly dividend in 2009, from $0.31 to $0.10, the company increased its dividend to $0.12 in 2010 and raised it twice in 2011 to its current rate of $0.17 per quarter. The company did increase its dividend in each of the last fourth quarters.
There are other reasons why GE may now prefer selling bonds rather than utilizing some of its cash, including some capital requirements the company has. Most of the cash GE reports is actually held within GE Capital, where cash reserves are a necessity. Additionally, the move may be a testament to GE's desire to avoid paying any repatriation tax on the hoard of cash the company holds overseas. Over two-thirds of GE's cash, including GE Capital's, is held internationally.
In the second quarter of 2012, GE Capital reinstated cash payments to the parent company that had been suspended through the last there years. GE Capital paid GE a special dividend of $4.5 billion and announced a continuing quarterly payout of $450 million, which could help support another increase. The suspension of internal dividends from GE Capital to the parent company was a key cause of GE's dividend cut in 2009.
Beyond a potential dividend increase, GE may use some of its cash to institute a stock buyback or to make a targeted acquisition. If an acquisition is international, GE could be able to skirt repatriation tax issues. A share repurchase plan would be easier to turn off than a dividend increase, but may be a dangerous use of capital at this point, given GE's strong performance in 2012. Shares of GE have appreciated by about 28 percent since the start of the year and over 10 percent in the last month. See a recent performance chart (click to enlarge image):
With these substantial recent gains, a dividend increase may be the better option. A one-cent per quarter dividend increase would be a 5.8 percent rise in the payout, and work out to an annualized dividend of about 3.15 percent.
Disclosure: I am long GE.