Bed Bath and Beyond Cash and Debt-to-total Capital
While BBBY's balance sheet is strong, there are risks of having too much cash. Namely the risk of not attracting or keeping investors, because of their desire to maximize their returns. When an investor sees to much cash on the balance sheet, they may question the company's ability to manage their capital structure efficiently, and therefore question their ability to maximize shareholder value. While BBBY uses their cash for store growth and small acquisitions, they should also be focusing on using their cash to increase shareholder value. If BBBY were to use $400 million in excess cash and $636.3 million in borrowed funds to repurchase it's shares they would increase their basic earnings per share from 1.35 to 1.41 and their diluted earnings per share from 1.31 to 1.37 (exhibit 2). If BBBY were to use $400 million in excess cash, and borrow $1.27 billion to repurchase their shares, they would decrease their basic earnings per share from 1.35 to .70 and their diluted earnings per share from 1.31 to .72 (exhibit 2). Repurchasing shares with a 40% debt to total capital ratio would increase shareholder value, however repurchasing shares with an 80% debt to total capital ratio would significantly decrease shareholder value and therefore would not be advisable. Increasing debt increases shareholder value to a certain point. As this proforma shows, the point of diminishing return is somewhere between 40% and 80%. Capital Structure for Bed Bath and Beyond
An analysis of a repurchase of stock for $400 million cash, and recapitalization to 80% debt-to-total capital by borrowing $1.27 million reveals that BBBYs return on equity will be 113%, return on assets 61% and an after tax cost of debt of 28%. ROE is > ROA and ROA > after tax cost of debt. With the 80% debt-to-total capital structure ROE exceeds the other two capital structure scenarios of no debt and 40% debt-to-total capital. While all of this looks great...
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