One such company, Waste Connections Inc., wanted to prepare itself recently for a potential pipeline of acquisitions, as market-share leaders in the waste-collection and -disposal industry were merging and government-mandated divestitures (resulting in assets coming onto the market) were on the horizon. The company raised $394 million through a common-stock offering amid the September swoon in equities.
The cash gives the company flexibility and repositions Waste Connections's balance sheet for growth, says CFO Worthing Jackman. Meanwhile, the company stays one times leveraged. "There was a certainty of acquisitions and uncertainty in the capital markets," comments Jackman. "We took the uncertainty off the table."
William Welnhofer, a managing director at investment bank Robert W. Baird & Co., says equity financing is best used to complete an acquisition for which sufficient debt cannot be raised; to refinance debt that can be replaced only under onerous terms; or to finance capital expenditures if present leverage is high and covenants restrict incurrence of additional debt. Preferred stock or convertible subordinated debt have been popular alternatives to common stock, he adds.
Terms are not light these days for convertibles, however. Convertible subordinated debt for performing, non-investment-grade companies is being priced at a 10 percent coupon and a 15 percent conversion premium from a weighted average share price. Terms also include "make-whole" provisions, which require the issuer to pay the present value of the interest payments that the investor would have received until the bond's maturity. (That eliminates the incentive to hold on to the bond, says Welnhofer.)
"The real question is whether a public company would be willing to suffer the dilution associated with selling equity — possibly at a discount," Welnhofer warns. "Few companies outside of regulated financial institutions in need of additional capital are likely to be interested in issuing new equity at these prices unless they have to."
But while equity offerings may be dilutive in the near term, deploying the assets quickly can mitigate the dilutive effect, counters Jackman.
Slicing and Dicing
Thinking anew about freeing up capital also means exploring the sale of marginal assets, painful as it may sound.
When Tyco Electronics was spun off in 2007 and became a stand-alone public company, it performed an extensive review of its portfolio of businesses, using growth potential, market position, profitability, leverage with items in its portfolio, and return on invested capital as the measures, says Sheri Woodruff, a Tyco spokesperson. Based on the reviews, the Bermuda-based company decided to divest a radio-frequency components and subsystems business and an automotive radar sensors unit.
The sales netted $470 million in cash in September — almost a quarter's worth of the company's total operating income. The cash helped finance a $750 million increase in the company's share repurchase program as well as a dividend boost. Of course, not every company generates the free cash flow that Tyco Electronics does, which gives it the luxury to cut income-producing businesses.
If companies are considering asset sales, they should avoid the trap of basing portfolio decisions on performance instead of value, says Justin Pettit, a partner at Booz Allen Hamilton. "Value is the present value of all future performance," Pettit says. "Sell assets that are worth more to someone else than they are to you."
Indeed, jettisoning assets in a depressed market where demand is sketchy is not the shortest or most certain path to liquidity. Strategic M&A for 2008 increased to $939 billion as of last September, up 16 percent from the same period a year earlier, according to Dealogic. But the sclerotic capital markets have corporate buyers nixing announced deals, either because they can't raise the debt or the financial upside has evaporated."M&A advisers are not even willing to take assignments," says Mackinac's Gordon. "There simply are no buyers — a lot of them aren't sure the bottom has hit yet."
Since CFOs can't know where the bottom is, the safest play is to build a capital structure that can withstand the bitter-cold shock to the credit markets. For purposes of longer-term planning, decisions about optimum capital structures (Leverage up? Leverage down?) will diverge as CFOs confront a highly uncertain environment in which the standard playbook no longer applies. Says Gordon: "I don't know if there is a good model right now for capital raising — everyone is in such a state of flux."
Vincent Ryan is a senior editor of CFO.
Virgin Territory
An M&A deal that also made the balance sheet healthier
Pressures on companies' capital structures can play a huge role in how M&A deals are configured. Just ask Virgin Mobile USA. The prepaid wireless operator had plenty of balls to keep in the air last June as it was forging a deal to buy Helio, a mobile virtual-network operator partly owned by Earthlink and SK Telecom.
"We anticipated a large payment of debt due in 2010," says CFO John Feehan, who is leaving the company this month. "While we knew that we could manage our business to prevent tripping a covenant, external perceptions were uncertain in this rocky environment, and the covenants were pretty restrictive. Investors had raised concerns about our ability to get credit in the future."
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