Michael, the price of the stock definitely matters. I said if they can buy stock with an ROE which is lower than the interest they pay on the debt, they improve the financial situation of their company. And the ROE is before interest and taxes. Thus for instance, a company that has a PE (after Tax) of 30 and an overall tax rate of 50%, when buying back its stock, it buys at a ROE (the E here is market cost of equity, not its book value) of 6.6% (and many of them actually first sell puts to increase their returns by another 2%), if they borrow under that 6.6% (or actually 8.6%), they improve their return on their BV equity. If they overdo it, or pay higher interest rates than the 6.6% (8.6%), it is less wise.
Debt is capital, and a company that has return on capital employed which is higher than prevailing interest rates should use some "safe" debts levels to increase return on equity (which is only part of the capital base and a lower part if they have some debt). Is this not elementary?
Zeev |
