Corporate Finance Session 5 : Blaine Kitchenware Capital Structure – on Raising Debt
Using the example of Blaine Kitchenware (HBS Case)
As per the Snap Inc. & Bitmain Tech. cases, this lecture mixes
technical concepts on Capital Structure and strategic details on the
case example
Link to the case
Are Blaine’s current capital structure and payout policies appropriate?
There is a huge opportunity for a Private Equity for Blaine because they have no debt as a
company — a Private-Equity backed Leveraged Buy-Out would make the company bear the
debt of the acquisition and repay the debt with company cash-flows
The original Capital Structure of Blaine is very suited to a PE model deal.
How is it that debt creates value to begin with?
Blaine is into heavy negative debt territory > they mostly keep cash for acquisitions, and
keep intending to buy companies (instead of losing Equity and control by issuing shares)
Considering their cash situation, it would be very easy for them to borrow money (they
could raise cash/equity to fund their decisions of acquisitions, instead of only using organic
cash from operations)
Lending money to the Government (through investing your cash at a low interest rate, in
Government Bonds or in a Cash Account) is an NPV-negative transaction because it creates
tax obligations linked to Taxes on Capital Gains you pay on interest
NPV is 0 if you invest without risk at the Risk-free rate at which you’ll discount
cashflows anyways
Since NPV is 0 without accounting for Capital Gains tax, it turns negative after tax,
making investing too much cash a value-destroying (rather, value non-optimizing)
decision for the company
Another reason not to pile up cash is that the “free” cash will be spent by CEOs and
Executives committees > the company jet and expenses, or could overpay for M&A
acquisitions… CEOs who have cash lack discipline => DISCIPLINARY Effect of Debt
Does cash make you an attractive takeover target (if company is publicly traded)?
It actually is hard to buy a company that has a lot of cash AT A DISCOUNT because
takeovers are all about buying a company at a LOWER price than what it’s actually
worth (because of synergies, etc)
o But if you have loads of cash, the value of that is indisputable...
Should the CEO of Blaine recommend a large share repurchase to the board? What
are the primary advantages/disadvantages of such a move?
, The proposal Blaine has on the table is = borrowing $50M at 6% interest, using the proceeds
and $209M of their own cash to purchase 14M shares at $18.5 each, whereas current price
is $16.25 (giving a premium to current shareholders you’re buying the shares from)
/!\ This is different from Snap, where representatives would re-buy shares on the market AT
MARKET PRICE > here, it is a self-tender and there is a premium: you go buy the shares
DIRECTLY from the shareholders without intermediary by offering them a premium!
/!\ As a company, if you really want to buy back a significant amount of shares instantly, this
is truly your only option (treating everyone fairly). Repurchases at market price are heavily
regulated, and you get a quota of shares you can repurchase by month or so
Is Blaine getting ripped off by overpaying for their shares?
NO: the premium is just what you need to get the shareholders to tender their shares
to you ! Otherwise, they might not want to realise their capital gains right now
How would you, as the CFO, convince the CEO that this operation wouldn’t be too risky?
- (Book) Leverage Ratio after the recapitalization > how does it compare to peers ?
o Technically, Blaine still has $21M of cash left, and only $50M of debt
- Debt-to-total or Debt-to-Equity ratio as measurements
o D/D+E = 18% here
o D/E = 22% here
- You can’t really compare yourself with just the Debt/Total ratios of your competitors:
you need to look at Coverage Ratios (the extent of the cashflows you have to repay
vs. your ability to do so)
- My competitors may also have no clue what they’re doing > why should we imitate
them and compare our organic model to their leveraged ones?
Actually, using NET DEBT ratios (debt – excess cash, the one not necessary for operations,
not accounted for in NWC) is better for measurement > Net Debt/Capital ratio becomes 11%
There, in comparison with its peers, Blaine is still rather low (42%, 57%, 31%... only
one competitor is at -40% but they seem small)
Interest Coverage Ratios > estimating yearly interest payments and comparing that to EBIT
or EBITDA, for it to then give you how many times your operational ratios can cover your
interest payment (here, Blaine would be >20)
But what if my EBIT changes over the years? I have dividends to pay, investments to make …
Credit Ratings => how are they computed based on Interest ratio and Debt-to-Capital ratio?
- Now, the golden nugget is rather AA (very few AAA), but before at the time of case
(2006) Blaine would probably have been classified AAA
Using the example of Blaine Kitchenware (HBS Case)
As per the Snap Inc. & Bitmain Tech. cases, this lecture mixes
technical concepts on Capital Structure and strategic details on the
case example
Link to the case
Are Blaine’s current capital structure and payout policies appropriate?
There is a huge opportunity for a Private Equity for Blaine because they have no debt as a
company — a Private-Equity backed Leveraged Buy-Out would make the company bear the
debt of the acquisition and repay the debt with company cash-flows
The original Capital Structure of Blaine is very suited to a PE model deal.
How is it that debt creates value to begin with?
Blaine is into heavy negative debt territory > they mostly keep cash for acquisitions, and
keep intending to buy companies (instead of losing Equity and control by issuing shares)
Considering their cash situation, it would be very easy for them to borrow money (they
could raise cash/equity to fund their decisions of acquisitions, instead of only using organic
cash from operations)
Lending money to the Government (through investing your cash at a low interest rate, in
Government Bonds or in a Cash Account) is an NPV-negative transaction because it creates
tax obligations linked to Taxes on Capital Gains you pay on interest
NPV is 0 if you invest without risk at the Risk-free rate at which you’ll discount
cashflows anyways
Since NPV is 0 without accounting for Capital Gains tax, it turns negative after tax,
making investing too much cash a value-destroying (rather, value non-optimizing)
decision for the company
Another reason not to pile up cash is that the “free” cash will be spent by CEOs and
Executives committees > the company jet and expenses, or could overpay for M&A
acquisitions… CEOs who have cash lack discipline => DISCIPLINARY Effect of Debt
Does cash make you an attractive takeover target (if company is publicly traded)?
It actually is hard to buy a company that has a lot of cash AT A DISCOUNT because
takeovers are all about buying a company at a LOWER price than what it’s actually
worth (because of synergies, etc)
o But if you have loads of cash, the value of that is indisputable...
Should the CEO of Blaine recommend a large share repurchase to the board? What
are the primary advantages/disadvantages of such a move?
, The proposal Blaine has on the table is = borrowing $50M at 6% interest, using the proceeds
and $209M of their own cash to purchase 14M shares at $18.5 each, whereas current price
is $16.25 (giving a premium to current shareholders you’re buying the shares from)
/!\ This is different from Snap, where representatives would re-buy shares on the market AT
MARKET PRICE > here, it is a self-tender and there is a premium: you go buy the shares
DIRECTLY from the shareholders without intermediary by offering them a premium!
/!\ As a company, if you really want to buy back a significant amount of shares instantly, this
is truly your only option (treating everyone fairly). Repurchases at market price are heavily
regulated, and you get a quota of shares you can repurchase by month or so
Is Blaine getting ripped off by overpaying for their shares?
NO: the premium is just what you need to get the shareholders to tender their shares
to you ! Otherwise, they might not want to realise their capital gains right now
How would you, as the CFO, convince the CEO that this operation wouldn’t be too risky?
- (Book) Leverage Ratio after the recapitalization > how does it compare to peers ?
o Technically, Blaine still has $21M of cash left, and only $50M of debt
- Debt-to-total or Debt-to-Equity ratio as measurements
o D/D+E = 18% here
o D/E = 22% here
- You can’t really compare yourself with just the Debt/Total ratios of your competitors:
you need to look at Coverage Ratios (the extent of the cashflows you have to repay
vs. your ability to do so)
- My competitors may also have no clue what they’re doing > why should we imitate
them and compare our organic model to their leveraged ones?
Actually, using NET DEBT ratios (debt – excess cash, the one not necessary for operations,
not accounted for in NWC) is better for measurement > Net Debt/Capital ratio becomes 11%
There, in comparison with its peers, Blaine is still rather low (42%, 57%, 31%... only
one competitor is at -40% but they seem small)
Interest Coverage Ratios > estimating yearly interest payments and comparing that to EBIT
or EBITDA, for it to then give you how many times your operational ratios can cover your
interest payment (here, Blaine would be >20)
But what if my EBIT changes over the years? I have dividends to pay, investments to make …
Credit Ratings => how are they computed based on Interest ratio and Debt-to-Capital ratio?
- Now, the golden nugget is rather AA (very few AAA), but before at the time of case
(2006) Blaine would probably have been classified AAA
