Ford’s stock issue makes more sense than Microsoft’s bond

May 12, 2009

Ford is issuing equity and will probably use some of the proceeds to buy back debt. At the same time, Microsoft is issuing debt and will probably use some of the proceeds to buy back equity. Which one makes more sense? The answer, quite clearly, is Ford.

There’s basically only one good reason why companies would want debt rather than equity, especially in these days of deleveraging, and that’s the tax advantages of debt — you pay income tax on corporate profits only after you’ve made your debt-service payments. Ford has lost so much money in recent years that it’s very unlikely to have to pay any tax at all for the foreseeable future — and as a result the less debt it has, the stronger it is.

The case of Microsoft is weirder, mainly because it’s sitting on $23 billion of cash already — why on earth would it need $3.75 billion more? Anything it can do with debt, like buying stock, it can do with cash. And although Microsoft’s debt is cheap — it’s paying only about 100bp over Treasuries, even as most triple-A corporates have a spread of more than twice that — it still is going to end up shelling out significantly more in debt service than it will receive in interest on the proceeds.

The main reason for the Microsoft bond issue, then, is signalling. It’s a way of Microsoft telling the market that it’s still ambitious, that it still wants to grow, that it has some doubts about whether its $23 billion will suffice to fund its plans, and that it wants to lock in low rates now to help finance all manner of wonderful growth over the coming decades.

The question is whether you believe it. My feeling is that Microsoft’s days of fast growth are long in the past, and that it’s increasingly becoming a utility. Not that there’s anything wrong with that. But it does mean that if it already has $23 billion of cash, there’s really no reason to go ahead and issue debt on top.


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