Re: Doug Henwood on SS and equity shares

[Basil Moore <bmoore@xxxxxxxxxxxxxxxxx>]

Doug
I also did some work on this a long time ago. I remember new issues while
low as a share of total funds were quite volatile, and in some years were
important. Companies cannot permanently finance 90 % of new investment
internally, or that would imply debt ratios of 10 %. Don't I remember
corporate debt ratios are about 50%?  Basil Moore


At 12:03 PM 3/4/96 -0400, you wrote:
>At 3:38 PM 3/3/96, JSAlbus@xxxxxxx wrote:
>
>>What is the cause and what is the effect?  Are you saying that the markets
>>are awash in equity financing that no one wants?  Is it true that
>>corporations prefer to borrow money at 8% rather than take equity at zero?
>> To what do you attribute this strange preference?
>
>The reluctance to issue stock, both for virgin and seasoned companies, is
>well-established in both empirical and theoretical terms. Equity finance
>has proved a fairly insignificant source of investment capital in both
>developed and developing countries, and both in the present and distant
>past.
>
>Why is this? For initial offerings, managers are often reluctant to share a
>good thing with outsiders. For seasoned offerings, there is a permanent
>depression of the stock price regardless of the quantity offered. As the
>standard biz school finance text (Brealey & Myers) puts it, "Economists who
>have studied new issues of common stock have generally found that
>announcement of the issue does result in a decline in the stock price. For
>industrial issues in teh United States this decline amounts to about 3
>percent. While this may not sound overwhelming, the fall in market value is
>equivalent to nearly a third of the new money raised by the issue." [Cites
>are in the text; I'm too lazy to type them.] Another reason is the perverse
>signalling effects: for an IPO, the question is, if you're biz is so hot,
>why are you sharing a piece of it with me?; for a seasoned offering,
>investors often take a stock offering as a sign that management thinks
>their share price is overvalued.
>
>Also, the costs of equity offerings are quite high (lawyers, registration
>fees, promotion, etc.) - higher than debt, and of course much higher than
>internal finance.
>
>> Doug Henwood writes:
>>I don't think most US firms are finance-constrained; they don't invest
>>more because anticipated profitability doesn't match their absurd real
>>hurdle rate of around 11%.
>>
>>Albus replies:
>>And why do they set the hurdle at 11%?  Could it be that they cannot afford
>>to invest at a lower rate of return because of the risk and cost of borrowing
>>at 8%?
>
>Uh, what? The cost of funds, in real terms, to a blue-chip US firm is
>around 3%, and the hurdle rate is 11%. I don't understand your point here.
>
>>And even if it is, so what?  What is wrong with that?  Allow for the
>>consideration of something new here.  We don't have to be limited by Karl
>>Marx's vision of capitalism.
>
>It's not Marx's vision that's limited, comrade, it's capital's.
>
>Doug
>
>--
>
>Doug Henwood
>Left Business Observer
>250 W 85 St
>New York NY 10024-3217
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>
>
>


Basil Moore, Department of Economics
Wesleyan University
685-2363