Leveraged Recapitalizations involve issuing new corporate bonds to finance a share buyback or large dividend, essentially rebalancing the capital structure of the business.
Dividend recapitalizations will cause the share price to reduce, largely because the company’s debt-to-equity ratio has changed. This can be used to make the company look unattractive to potential acquirers. Recapitalizations are restructuring of a company’s capital. Dividend recapitalizations are sometimes called dividend recaps.
The company will take on a large new amount of debt by issuing a block of bonds, and will use the capital from the issue to pay a large dividend to stockholders. Sometimes this can be abused when there are relatively few shareholders in a private equity firm, and they essentially take a large loan out to pay themselves instead of redeeming their shares.
The large dividend will lower the share price in a way similar to the reduced share price after a traditional dividend’s ex-dividend or payment date, but, in this case, it has more to do with the fact that the fundamental capital structure of the company has changed and the shares have less inherent value.
The shares with reduced price are sometimes referred to as “stubs,” especially if the price is reduced to 25% of the pre-dividend price, but f the dividend plus the stub price is larger than the share price before the dividend, the recapitalization is considered successful.
This strategy is sometimes used as a defensive strategy to avoid a hostile take-over, making the company look less attractive by taking on more debt.
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