Jose R. Lopez/The New York TimesFranco Modigliani, an economist, testifying before a Congressional committee in 1985. Beginning in the 1950s, he explained the benefits of corporate debt.The debt issued today is the stuff of tomorrow’s bankruptcy cases.
That’s something that all the corporations rushing to take advantage of low rates should take into consideration, but probably won’t.
After all, interest payments on corporate debt are tax deductible and with interest rates this low, locking in that cost of capital for 30 years seems like a no-brainer.
For many companies, it is. After all, modern (that is, post-World War II) finance theory tells us so.
Since the 1950s, beginning with the economists Franco Modigliani and Merton Miller, it has been basic knowledge that using a very high degree of leverage in the capital structure is a good idea, especially if you can divert investors away from thinking too much about bankruptcy costs. With interest rates this low – the yield on 30-year single A debt is below 5 percent – investors seem to be discounting the likelihood of a future bankruptcy.
But if this is the low point for interest rates for a good long while, 30 years from now could be interesting. The “wall of maturities” that will hit then could provide for some happy times for the bankruptcy lawyers of the future.
Cold comfort for those with little to do today. And perhaps something for me to write about before retirement.
The question is whether the managers of today care about that. In a world where so much executive compensation is stock based, it may be that it is finally true that managers do maximize shareholder value.
Whether that is the same thing as maximizing corporate value is a whole other question.