PG&E Bankruptcy?

In early November, the deadliest wildfire in California history broke out. And while the exact cause has not been determined, the California Department of Forestry and Fire Protection is investigating power lines operated by PG&E as a possible cause. PG&E was previously blamed for a fire that occurred in 2017 and had to issue bonds to pay for claims from that fire even though the state has not issued a report on the cause of that fire. In the textbook, we mentioned that at one point, Continental Airlines filed bankruptcy in order to reduce labor costs. Now, there is a possibility that PG&E may use the bankruptcy process to seek relief from possible financial claims arising from the 2018 fire.

Buffett Bets On Interest Rates

Famed investor Warren Buffett has made a bet  on interest rates. Recently, Berkshire Hathaway issued 30-year fixed rate bonds to pay for existing bonds that were maturing. And while this is a common practice for many companies, what made this interesting is the the maturing bonds were floating rate coupons. Floating rate bonds benefit the a company when interest rates are falling since the coupon payments will decline, while increasing the coupon payments when interest rates are increasing. While no statement on the reason behind exchanging fixed rate bonds floating rate bonds was made by the company, it could be an indication that Mr. Buffett believes that an increase in interest rates is more likely than a decrease.

The Benefits Of Diversification

We have discussed how diversification works and shown examples, but what about how it works in your portfolio? A recent article in Money discusses how much you should have invested in stocks depending on your age. And while we don't want to take a position in this, we would like to point out the "Finding the Right Mix" figure shown in the article. As you can see, in general, the range of possible returns declines as you increase the percentage of bonds in a portfolio. This is the decline in volatility that is also exhibited in the lower standard deviation from adding bonds to a stock portfolio. 

Spotify's Reverse IPO

Spotify went public on April 3, 2018 in a direct listing. Bypassing the traditional underwriting process, Spotify basically said that its stock could now be publicly traded. Because Spotify did a direct listing, the company raised no additional money from outside investors. And Spotify could have sold shares on the market without worrying about the underpricing that often occurs in an IPO. Now, about seven months later, Spotify just announced a $1 billion share buyback. The stock has fallen about $8 billion since it went public and the buyback is a signal of management’s confidence in the stock. More interestingly, it also means that Spotify has never raised public capital and is using the stock market only as a means to return capital to investors. As this article points out, because of the new reliance on private investors, we could possibly see a day when a company undertakes an IPO for the purpose of initiating a buyback.

Sears' Financial Distress Costs

We mentioned in the textbook that there are indirect financial distress costs, which, unfortunately, Sears is experiencing. Because of Sears' financial problems, suppliers are not willing to sell to Sears, or are tightening credit terms. Part of the reason is that suppliers continued to sell to Toys R Us, but then only received 20 cents on the dollar. A poll indicates that 66 percent of suppliers are demanding cash payment or payment on delivery and 26 percent were on regular terms, but not longer than 30 days. In fact, more than 200 suppliers have quit selling to Sears at all. This can create a "death spiral" as Sears cannot order goods to sell at a time when sales are already low, meaning fewer customers even go to Sears' stores. 

Netflix's Capital Structure

As we discussed in the text, the optimal capital structure for a company is the result of many interacting factors. And while we can observe capital structures in practice, it is less frequent for a company to state its target capital structure. Recently, Netflix announced that was issuing $2 billion in debt to help the company reach its optimal capital structure, which the company said should be 20 to 25 percent debt-to-market capitalization. At the current market value of equity, the company would need to issue between $22 and $30 billion of debt. What makes this debt issue really interesting is that though company is burning through cash, the announced purpose of the bond is to increase leverage.  

Market Quiz

CFO.com has a seven question quiz on current capital markets. There are some interesting questions, including the relative size of the venture capital market compared to IPOs, the issuance size of the preferred stock market (keep in mind that Apple's market capitalization is over $1 trillion), and the slope of the Treasury yield curve.