When considering raising finance for new projects the main considerations for companies are availability and cost, or when can I get it and how much will it cost?
During the 'credit crunch' there was a shortage of credit, banks no longer wanted to lend. The banks hadn't been wise enough to keep a nest egg for those who hadn't been wise enough to keep a nest egg. Today, funds are directed from the Bank of England to high street banks with the specific purpose that it is loaned to businesses.
There was national surprise when established businesses such as Woolworths went bust. How could it be that such a well know town and city fixture was financially unstable? Everyday we read that some well known brand was struggling and in need of finance. The truth is that without finance, many businesses could not operate.
There are different types of finance available, a project may be funded internally using retained earnings, (or profits from last year,) but what if you didn't make a profit last year? Other finance options include Equity and Debt finance, or a mixture of both. Either way, investors expect a return on their investment.
Vodafone has recently been discussed in relation to an 'all cash' deal to buy Cable and Wireless. UPS are in talks to buy TNT Express, offering 9 Euros per share and although Anglo American ended the year with debts following the purchase of a stake in De Beers, they plan $7bn capital expenditure in 2012.
An initial float on the stock market is a lengthy process so would be associated with long term strategic intent rather than an opportunity the company couldn't miss. It involves sponsors, prospectuses and loss of control but brings with it no obligation to make regular payments - unless they want to pay dividends. If the company's shares are attractive to the market, this may be a good way to raise finance, either on a local market or globally. Issuing shares is costly but also helps to raise the profile of a company.
Debt finance may be a better (and probably less expensive) option for some companies, particularly those who prefer not to 'float', Phillip Green, Richard Branson, Mr JCB etc.There are many options available to businesses, not just bank loans, they can use bonds or even syndicated loans if the amount of borrowing is extremely large (£100m upwards). The major benefit of this type of borrowing is that there is no loss of control (provided you can make the repayments).
Dominos pizza company is a good example, they moved from the AIM to the main market in 2008, earnings per share and dividend per share have increased year on year by at least 24% over the last five years. The management have big plans and their investment has paid off. Currently they have a loan for £25m. Their business model includes being highly geared. Their gearing ratio has been as high as 73% (2009). The 2010 long term liabilities were £54m, total equity stood at £42m.
Dominos have had a programme of share buybacks which has generated artificial interest in the company and falsely inflated the share price. They chose to buy back shares rather than reduce their debt. Their manipulation of the stock market could be a viewed as beating the market, but is heavily reliant on a strong business model, they have used value enhancing methods very well and can cope with the associated risks. They chose to take out a loan rather than giving away any further control to shareholders and by using a less expensive form of debt, they have lowered their weighted average cost of capital. Very good.
Question. How did they raise money during a "credit crunch" if money is in such short supply? OK they issued shares. but they also have a loan of £25m, their business model is highly geared. I would think twice before I invested in them. How do they manage their liquidity?
ReplyDeleteDominos has an excellent cash flow, that helps. Although they look risky as far as gearing, they're very liquid because of the amount of cash flowing through. Profits go back in through share buybacks and consequently their share price continues to increase, (artificially inflated? Maybe.) providing shareholder wealth consistently and making them a good buy.It made big news recently when one of the original shareholders sold out.
ReplyDeleteSuccess for Dominos is based on a number of things, they're at the higher end of the takeaway market with not too many similar companies and they have big plans and they're not afraid to invest to achieve them. Their business model and cash position means they can.