Icahn’s Apple Buyback Seen Failing in Bonds: Corporate Finance

Apple Inc. bondholders are signaling investor Carl Icahn’s appeal for an additional $150 billion in share buybacks is little more than wishful thinking.

While Icahn, who supports funding the transaction with debt, said Oct. 1 that he “pushed hard” for the repurchases during a dinner with Chief Executive Officer Tim Cook, the extra yield creditors demand to own Apple notes instead of Treasuries declined. That shows investors doubt the proposal will be adopted with the iPhone maker already returning $100 billion to shareholders in a program that included $16 billion of buybacks last quarter, according to Frost Investment Advisors LLC.

“It’s more of a fantasy,” said Nikhill Patel, an analyst at San Antonio-based Frost, which oversees more than $9 billion and owned Apple bonds at the end of August. “I don’t think he’s going to rock the boat with Apple.”

The performance of Apple bonds reveals how the Cupertino, California-based company’s $436 billion market value makes it more difficult to agitate for stockholder-friendly changes than at smaller companies such as Transocean Ltd., whose relative yields surged with Icahn, who disclosed a “large position” in Apple in August, seeking a payout from the rig operator. An additional $150 billion of debt would swell Apple’s leverage 10-fold to more than the average level among the world’s largest technology companies.

Icahn’s Apartment

The dinner with Cook took place Sept. 30 at Icahn’s apartment in New York, when Apple’s $14 billion of fixed-coupon obligations paid about 75 basis points more than government securities, according to data compiled by Bloomberg. The next day, the world’s 37th-richest person said via Twitter that dialogue would continue in about three weeks, and Apple’s average spread ended yesterday at 72 basis points.

Patel estimated spreads would widen by as much as 20 basis points if there was sufficient risk of the extra repurchases taking place.

Relative yields on the $176 billion of investment-grade technology bonds tracked by Bloomberg widened 1.1 basis points to 124.5 in the same period.

“The reaction has been muted,” said David Brown, a money manager who helps oversee about $93 billion of fixed-income assets, including Apple bonds, at Neuberger Berman in Chicago. “As of right now, the bond market is pricing a low probability of a massive share repurchase in the short term.”

Transocean Spreads

Icahn, 77, didn’t respond to a request for comment e-mailed to Susan Gordon, his spokeswoman. Steve Dowling, a spokesman for Apple, declined to comment on the company’s buyback plans.

Transocean said Jan. 13 that Icahn and his affiliates were seeking to expand a 1.56 percent stake to more than 3 percent, and within a week average relative yields jumped more than 20 basis points to 202, Bloomberg data show. Spreads widened to 242 in March as the Vernier, Switzerland-based company reinstated dividend payments; a higher payout supported by Icahn was later rejected in May.

His Apple stake, estimated at more than $1 billion in August by a person familiar with the investment, is the newest foray into the technology sector after he built a position in Dell Inc. that failed to derail a leveraged-buyout by its founder. It’s also a challenge for Cook, who earlier this year increased dividends and buybacks amid investor concern that the company’s growth would slow and calls from hedge-fund manager David Einhorn to return more cash to shareholders.

Revenue of $169.4 billion in the four quarters ended June 29 increased 14 percent from a year earlier, the slowest pace since at least 2004, Bloomberg data show.

Free Cash

While Apple, whose $43.2 billion of free cash flow in the latest 12 months exceeds the individual market values of 80 percent of the companies in the Standard & Poor’s 500 index, has the capacity to boost the $100 billion it already plans to return to shareholders by 2015 without impairing its credit, the increase proffered by Icahn is unlikely, according to Mark Anderson of Thrivent Financial for Lutherans.

Free cash is money available to be reinvested in the company, reward shareholders with dividends and buybacks, or repay debt.

“The amount he’s looking for is a little unrealistic,” said Anderson, whose Minneapolis-based firm oversees more than $80 billion including Apple bonds.

Stock Gain

Since borrowing a then-record $17 billion in April to help fund the payout, Apple’s stock has returned 8.5 percent, outperforming the 5.5 percent gain delivered by the S&P 500 index. The company had repurchased $18 billion of shares out of an authorized $60 billion as of June 29, when it had $146.6 billion of cash and marketable securities, according to a July 24 regulatory filing.

The six-part bond offering on April 30 left the iPad maker with a debt burden that accounts for only 30 percent of its $56 billion of trailing 12-month earnings before interest, taxes, depreciation and amortization. That’s less than every indebted technology company with market values of at least $10 billion except Samsung Electronics Co., Bloomberg data show.

Icahn wants Apple to borrow $150 billion at a 3 percent interest rate to finance the buybacks, according to a person familiar with Icahn’s thinking who asked not to be identified because the plans are private.

The additional borrowing would probably propel Apple’s leverage beyond amounts at Microsoft Corp., International Business Machines Corp. and Hewlett-Packard Co., the struggling personal-computer maker with credit ratings six levels below those at Apple.

“The Icahn proposal would result in a meaningful credit deterioration,” Neuberger Berman’s Brown said. “And I suspect Apple’s not interested in changing their credit profile.”

‘Just Flash’

Its $5.5 billion of 2.4 percent notes due in 2023, which are ranked Aa1 at Moody’s Investors Service and an equivalent AA+ at S&P, traded at 90.7 cents yesterday to yield 3.56 percent, or 95.3 basis points more than Treasuries, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. The spread is up from 85.1 basis points on Aug. 12, the day before Icahn announced his stake.

“He hasn’t, at this point, really caused a big stir,” said Lon Erickson, a Santa Fe, New Mexico-based money manager at Thornburg Investment Management Inc., which oversees $86 billion and doesn’t own Apple bonds. “When you throw out such big numbers like that, people almost immediately discount it as just flash and a lot of noise.”

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