Financial Intelligence at Harvard Business School

By Felix Salmon
July 16, 2009

Harvard Business School has a blog called Financial Intelligence, where you can find this:

It would not be rational for a public company to be funded only by equity. It’s too inefficient. Debt is a lower cost source of funds and allows a higher return to the equity investors by leveraging their money…

Back to Google. It’s a nearly $22 billion company with no debt, which is inefficient. The problem for Google is that their cash flow and profit are so strong that they can finance the business with retained earnings. But I predict that as Google matures and growth slows, debt will become an important source of funding.

Yes, this is the kind of insight that 942 MBA students are paying $76,600 per year for. The “problem” for Google is that it’s making too much money! Debt is good because it provides leverage for equity investors! And of course, “as Google matures and growth slows”, it will never be content with simply making billions of dollars a year, but will instead seek “funding” in the debt markets in order to, er, invest in something. Or something. That’s all left very vague.

The weird thing is that if Google was ever silly enough to believe this claptrap, it wouldn’t wait until its business had “matured” to raise debt — instead, it would raise debt right now, and spend the proceeds on buying back its stock. That would put an end to its “inefficient” capital structure right there. Thankfully, Google is sensible enough not to want to spend vast amounts of money on needless interest income — especially when it’s paying no dividend. And I doubt it’ll raise any debt at all for the foreseeable future, either now or after its growth has slowed. It simply doesn’t need to.

(HT: Zubin)

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