
Should the world worry about America’s corporate-debt mountain? - indigodaddy
https://www.economist.com/briefing/2019/03/14/should-the-world-worry-about-americas-corporate-debt-mountain
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ThrustVectoring
Corporate debt is fundamentally just a piece of capital structure and tax
arbitrage. It's not really something that is that concerning.

Fundamentally, the overall value of a company is independent of how it is
financed. You can sell some standard bonds, issue some of those senior to
other ones, issue common and/or preferred stock, convertible bonds, whatever.
End of the day there's assets and expected cash flows, and all the various
tranches add up to the whole thing.

So, why do companies like debt instead of equity? It has advantageous
treatment in the tax code. If your company is financed entirely by equity and
it earns $100M in profits, you get taxed on the full $100M. If you sell bonds
that pay out $20M in interest each year, your taxable profits are now $80M
instead of $100M.

The people buying these corporate bonds are all _fully_ aware that they behave
like equity. Capital structure arbitrage firms will actually hedge their long
or short corporate bond positions by taking offsetting equity positions - buy
the bond, short the stock, and collect the excess yield. So it's not really
any sort of moral thing with having lots of corporate debt out there, mostly
just an anomaly in how claims on corporate assets are divvied up in order to
end up paying less in taxes.

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fallingfrog
But if you have issued a lot of debt, does that not expose you to risk when
the interest rate changes?

Additionally, don’t you think it’s true that companies are issuing debt to buy
back their own stock, which they then intentionally overpay for in order to
drive up the stock price?

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ThrustVectoring
Interest rate risk isn't a huge deal for issuers when rates are this low - not
much room for rates to fall. And even if it did become significant, the
futures market has very effective tools for hedging various kinds of interest
rate risk.

>Additionally, don’t you think it’s true that companies are issuing debt to
buy back their own stock, which they then intentionally overpay for in order
to drive up the stock price?

Stock buybacks are replacing dividends for tax reasons - they both make the
overall value of publicly traded shares lower by giving cash to shareholders.
Dividends trigger income tax by replacing share price with cash in hand, while
buybacks reduce the publicly traded float at the same price and only triggers
capital gains for the shareholders who wish to sell into the buyback.

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fallingfrog
I was more referring to the risk of interest rates going up- would that not
mean that the debt has to be either repaid or rolled over into a new loan at a
higher rate, when it matures? What if the fed raises rates like it did during
the volker shock- if you owe a lot of cash and the rates go that high, does
your company not become insolvent?

~~~
ThrustVectoring
If you've issued long-term bonds and rates go up, you can buy back your own
bonds below par and earn a profit (depending on rate movements etc). And when
it matures, you can likely issue more stock if the cash flow situation of your
company hasn't changed. The only route for insolvency is if you've used debt
issuance to pull more cash out of the company than the actual equity slice
_should_ have been worth.

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fallingfrog
That makes sense, but my guess is unfortunately that that is exactly what
companies are doing, mostly because the ceo gets a sizable bonus when the
stock price goes up.

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rmrfrmrf
Probably. The only thing that's driven the economy since 2009 is the
suppression of wages, technology-based productivity boosts, and the hindsight
to know that the US Government is ready and willing to bail out any
sufficiently large industry.

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illvm
How does wage suppression drive the economy? If less people have money to
spend wouldn't there be less economic activity?

~~~
rmrfrmrf
When the cost of labor stays the same while productivity increases due to
technological advances (e.g. moving from an in-house server farm to the
cloud), profit increases.

~~~
abakker
Not necessarily. I know it is slightly pedantic to point this out, but
technical advances does not imply "free technical advances". e.g. you may
increase productivity without increases in wages but not increase profits if
the technical progress is driven by paid improvements in technology (which
tends to me a multiplier on capital).

So, for example, if you get a new versions of excel, which improves your
productivity $100/year, but excel costs $100 this year to upgrade, you haven't
gained anything in year 1. That will be a multiplier, but, if the upgrades
cost a lot up front (e.g changing technology stack causes initial decrease in
productivity and obsolescence of some internal IP + change costs, training,
etc) and the productivity increase will be small then it may not be obvious
that there is an economic benefit for quite some time.

Of course, a lot of companies think this way and failure to just ditch a lot
of old tech years ago, ends up massively holding back productivity relative to
peers that did make the upgrades. As a result the company sees low per capita
productivity and decides not to raise wages.

Note: this is _theory_ I do not have actual academic studies in practice that
can demonstrate this explicitly in a controlled environment, but anecdotal
experience certainly makes me suspect that this is what is going on.

edit: grammar

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rmrfrmrf
> So, for example, if you get a new versions of excel, which improves your
> productivity $100/year, but excel costs $100 this year to upgrade, you
> haven't gained anything in year 1.

Yes, but this is a tautology (it will always be true that making a capital
expenditure of $x/employee/year to augment surplus value $x/employee/year will
break even). Productivity itself is scalar (units produced/time), so to arrive
at a dollar amount of $100 additional revenue generated per employee would
suggest an incredibly small increase in units produced over 1 year.

