Having told the world that it will borrow billions (and cut capex) to "return all free cash to investors," it appears ratings agency S&P just needed to remind McDonalds that Shareholder-friendly releveraging no longer comes for free...
- *S&P LWRS MCDONALD'S RTG TO 'BBB+' ON SHR BUYBACK PLANS
Who could have seen that coming?
Here's why... (via S&P)
McDonald's announced its intent to return an additional $10 billion to shareholders by the end of 2016, substantially funded by debt.
We are lowering the corporate credit rating to 'BBB+' from 'A-' since the company's various credit metrics will now be measurably worse than our previous expectations.
Our assumption is that debt to EBITDA will rise to the low- to mid-3x range during 2016-2017 versus around mid-2x previously.
The outlook is stable, reflecting our view that there will be continued progress in the U.S. and that credit metrics will not rise above 4x over the next two years as the company balances further share repurchases and a substantial dividend with the timing of success in the business turnaround.
- *MCDONALD'S BOOSTS HOLDERS CASH RETURN TARGET BY $10B OVER PRIOR
- *MCD SEES CASH RETURN TO HOLDERS ABOUT $30B 3 YR PERIOD END '16
- *MCDONALD'S: MAJORITY $10B OF CASH RETURN FUNDED BY ADDED DEBT
- *MCD SEES CAPEX DECLINING OVER TIME
- *MCD SEES RETURNING ALL FREE CASH TO INVESTORS IN THE LONG TERM
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It is notable how quickly S&P jumped on this - immediately slamming companies for aggressive shareholder-friendly releveraging.. as we noted previously,
Until recently, rising corporate leverage was primarily the result of companies desire to bolster shareholder value at the expense of bondholders —issue bonds and buy stock or issue bonds and buy a company. But in recent quarters declining earnings have been an important reason for the upward trend (Figure 4).
The 3-fold increase in share buybacks in the past five years has been the key driver of corporate re-leveraging. In large part, buybacks have been the result of strong incentives provided to corporate managers by activists in particular and equity investors in general.
But there are signs that this may be changing.
Given that we are clearly moving into a higher default environment we believe that equity investors may be inclined not to reward stocks that have large buyback programs. And if this is the case, corporate managers will have a diminished incentive to borrow money to finance buybacks.
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Got it. So what Citi is saying is that now that corporate leverage is at record levels, the game is officially up and once the defaults start and the cost of capital begins to rise, no sane equity investors (of course nowadays the idea of a "sane" or even a "human" equity investor is an oxymoron) will ever buy into the story nor even think about throwing money at a secondary.