Climbing the Debt Wall
We have written before about the US Central Bank and their zero interest rate policy (ZIRP). Admittedly, some of us favoured Richard Fisher's (President of the Federal Reserve Bank of Dallas) philosophy that they should raise interest rates immediately so that companies will be more likely to initiate capital projects before interest rates rose too much. Now though, we are beginning to see the forest-for-the-trees, as some of Ben Bernanke's intent for keeping interest rates low through mid-2015 becomes more evident.
Companies are refinancing debt at unprecedented rates and almost all of it is accretive. People talk about a bond bubble but most of the debt being raised today is not being used for dividends. It is being used to refinance existing debts under better terms - read ACCRETIVE.
The following chart illustrates the ladder of debt maturities outstanding by year. Noticeably apparent, is the large amount maturing through 2015 before it begins to taper off.
Without favourable rate conditions for refinancing, companies would have struggled with debt requirements in the economic climate of recent years. By promoting companies to refinance at lower rates the FED provided an overlooked source of economic stimulus.
Take a typical day in the bond market and let's break down all loan and new bond issuances. The following examples are all from a single day, February 20th:
- SunGard Data systems - a huge leveraged buyout from 2006 launched a $2B, 7-year loan to refinance all of their 2016 maturity loans and a portion of their 2017 maturities. The company saved 50bps or $10m per year in interest savings. 2012 revenue was $4.5B.
- Cedar Fair - the big US amusement park operator launched an $885m loan package split between five and seven year maturities. Proceeds were used to refinance their 2017 loan maturities and lower the interest rate by 50 - 75 bps. May not sound like much but that is $4.5m-$7m per year in savings. 2012 revenue was $1.1B.
- Encompass Digital Media - seeks to cut its loan rate by 125 bps on their $265m loan. That is a savings of over $3m per year in interest costs or 3% of their 2012 revenue ($100m).
- Total Safety - launched a $445m loan package to refinance 2017 loans and to pay a dividend to its sponsor. The package saves the company over 125bps on existing debt.
- EarthLink - launched a new $300m loan to refinance its 2016 loan maturities and lowered the coupon on new debt by a whopping 550bps. That is over $17.5m per year in interest savings or 1.3% of their 2012 revenue ($1.3B).
- Ashland Inc - launched a $2.4b bond deal, the largest this year, to refinance two term loans with 2016-2018 maturities. No details are available yet on pricing but the new loans are expected to be accretive.
- Goodyear Tire and Rubber - launched $750m in senior notes around 50bps savings to comparable issues. That amounts to $3.75m in interest savings per year.
- The proceeds are to be used for pension contributions, which represents 75bps of their 2012 contribution.
- Morgan Stanley - came to the market with a new deal package that includes a 10-year maturity price 175bps below where they last issued 10-year paper just two years ago.
This is just an average day and you can see how accretive these new issues are for the market. Most of these issuances were refinancing with the odd dividend. Looking further, we can ask where these savings go? Well, they go into capital projects (which will eventually translate into more jobs) and one way or another they reach the equity holders.
Indeed, what is going on in the bond market is a big positive for the equity markets. Pundits may talk about a bond bubble but we look at how positive the bond market has been for equity holders. Maturities are being extended and interest costs are being lowered. We will begin to see this in the market by way of capital spending and equity market earnings, which is nothing but a positive.
Ben Bernanke has engineered something amazing and he is not being recognized for it. Companies are getting the opportunity to refinance at lower rates and extend their maturities. At some point the market will realize his foresight but unfortunately it will probably be after his departure...
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