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How to most effectively leverage a strong balance sheet at public company?

My company has a rather strong balance sheet - a few hundred million in inventory and receivables - with a good track record of turning those into cash. We also have strong public equity and not much debt. What I see is that we have a lot of room for leveraging, we simply have not had the desire at the board and executive level to take advantage. I am a new CFO for this company and the board has some new members of late and we are looking at this untapped "potential energy".

I would greatly appreciate some insight into what the execs on Proformative have found to be the most useful, highest return generating use for additional leverage. Given our strong cash flow and potential to create leverage, should we pull some of those triggers and a)fund projects, b)buy companies, c)stock buyback, d)dividend? There are simply so many options, each with wildly divergent outcomes, and beyond running models I'd like the input from an experienced group like this. Input greatly appreciated.


David Belgum
Title: CFO
Company: LeoNovus, Inc.
(CFO, LeoNovus, Inc.) |

At the risk of sounding too elementary, I would do a couple things first: look at similar public companies to see how much leverage they are using. This will provide insight into how much leverage is common for your industry which you can share with the board. Second, I would determine what your approximate cost of equity capital is. Knowing your current cost of capital and your weighted average cost of capital as you introduce debt into your capital structure will be important for understanding the minimum rate of return required when evaluating various investment opportunities. In theory, you should invest in additional projects as long as the NPV is positive.

Robert Honeyman
Title: CFO
Company: Advanced Predictive Analytics
(CFO, Advanced Predictive Analytics) |

This one is a real stumper. It is a broad as the Grand Canyon and deep as the ocean. In other words, I don't know how anyone can even attempt to help. But, what the hell... :7)

What are your company's core competencies (product? manufacturing? marketing? invention? etc.)? Whatever you do well, look to do more of the same in some identifiable tangential market.

Is there a board-level perception that the company is undervalued? Or is there a theoretical sense that with all the money sitting around doing nothing, there may be opportunity just going to waste?

There is often a temptation to discount risk of new ventures while taking the upside at face value. That is, it's pretty easy to overvalue the upside and underestimate the downside. The closer you stay to your core competencies, the lower the risk of falling into this trap.

One of the things you can do is issue dividends to stockholders, or, if you already do that, to increase the dividends. Not only will stockholders benefit directly, you may open the company to a new class of investors, helping increase valuation. Plus, this will allow you to increase your leverage without undertaking excess risk.

Not sure I've said anything that you don't already know or that you've already thought of, but it's where I'd start.

Topic Expert
Linda Wright
Title: Consultant
Company: Wright Consulting
(Consultant, Wright Consulting) |

I agree that this is a huge issue.

I would start with a few ideas that are reasonable and practical--already in view, like a strategic acquisition, and then model the after tax results of financing with debt or equity. Don't forget to include the cost of debt covenance adherence in your cash flows and consider whether these covenents will impede subsequent business operations and/or acquisitions. Cash gives you a lot of flexibility if you understand your operating cash requirements.

Topic Expert
Joseph Ori
Title: CEO
Company: Paramount Capital Corporation
(CEO, Paramount Capital Corporation) |

There are three things you can do with the additional capital:
1. Return it to shareholders via dividends and stock buybacks
2. Acquire other companies
3. Invest in your existing/core business

What option(s) you choose depends on your strategic growth plan, opportunities to grow via acquisition, shareholder objectives and opportunities to grow internally.

With interest rates at historical lows, this is a great time to leverage capital and grow the business and return cash to shareholders.

Topic Expert
Rex Jackson
Title: EVP and Chief Financial Officer
Company: JDS Uniphase
(EVP and Chief Financial Officer, JDS Uniphase) |

Agree with the Grand Canyon comment, but some suggestions and comments:

There are two issues--uses of cash and whether to use leverage to secure additional cash.

Re uses, the first question is ranking the opportunities. Funding projects is a question of what initiatives your team can recommend/support and what your P&L can withstand. Don't see this as a leverage issue, but one tied to operating cash flow and reporting metrics.

Beyond internal, dividends are good, but for companies that generate more cash than they can reliably deploy. These tend to be more mature companies, so unless you count your company in this category, dividends are harder to support.

If you have robust cash flow and no obvious uses, a stock buy back to cover at least your option/RSU burn rate is a good idea.

If you have acquisition opportunities that augment a leading position, or secure one, great use of capital, and current markets are quite favorable and are more likely than not going to get less so over time. So, it's a good time to go for greatness.

Absent specifics, go the leverage route to secure a war chest only if you have high confidence there is a strategy for successful deployment.

Topic Expert
Jim Quinlan
Title: CFO, Managing Director
Company: Trinity Group, BlueGold, Genergy, Wellco..
LinkedIn Profile
(CFO, Managing Director, Trinity Group, BlueGold, Genergy, Wellcount) |

There are lenders for every sort of asset. So, get a solid value on inventory, get a loan offer; also, check on loaning on your AR (yes, factoring).

Look into trading or placing cash in escrow for others' use for fees.

Generally, renting your cash generates good returns, especially if you can put it out for the benefit of quick projects. You need someone who knows these avenues to do it. Otherwise, there's more fraud than fact.

Wish you well,

Topic Expert
Keith Perry
Title: Director of Global Accounting
Company: Agrinos, Inc.
(Director of Global Accounting, Agrinos, Inc.) |


The best broad prescription that I've seen is to use EVA as the benchmark for doing these analyses. It is pretty simple to implement, and helps you make decisions that increase return vs cost of capital vs amount of capital.

Basically (and this is a highly summarized approach), you want to maximize operating profit (ignore effects of non-operating items), reduce the amount of capital employed or held, and reduce the cost (WACC) of the capital that remains.

I would start by modelling a dividend; include a simple calculation of adding the cheapest debt you can (as above, factoring the recievables is a good start), and also look at long term debt (as locking in current low rates seems a sensible hedge). Answer 1: how much money can you give back to shareholders under current operations?

Note: I'm not a fan of buybacks except in the rare occasions that you (as mentioned above) have a good use for the stock. Given the stockholders are the owners of the company, giving the cash to them instead of using it to increase the liquidity in the larger market seems like the right thing to do (and it increases the dividend yield which generally has a positive effect on the stock price).

Once you've figured out what you need to operate the business, do an EVA on the options on the table, specifically M&A and new initiatives, looking both at the incremental value-add, and the impact of those actions on your larger EVA calculation.



Jack Judd
Title: Retired
Company: Retired
(Retired, Retired) |

A lot of good points have been made. I am lucky enough to be a part of a company with great cash flows and large cash and investment balances on our balance sheet. There is nothing wrong with large cash balances. Resist thinking you need to be strategic and do something with the cash that is not part of your normal business. Do not let large cash balances change your strategy. Poorly conceived M&A can be a disaster for your organization. Good luck.

Topic Expert
Barrett Peterson
Title: Senior Manager, Actg Stnds & Analysis
Company: TTX
(Senior Manager, Actg Stnds & Analysis, TTX) |

First have a business plan that needs financing. Just doing deals "because you can" is a way for bad things to happen. If you do not have organic growth or growth by acquisition plans, consider a dividend or stock buy-back. The limit on leverage will vary with your industry and company history. Do not hit the limit unless absolutely needed, as leverage is a sword with two sharp edges.


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