Cost of capital and why BT decided to sell its shares

Cost of capital and why BT decided to sell its shares

It has recently emerged that BT have sold £1bn worth of shares to various investors through the stock market in order to raise the finances in order to buy the company EE, which will cost in total approximately £12.5bn.  When looking at all the available options businesses have to raise capital why has BT chosen this method as part of its source of capital, and where else is it finding the capital to invest from?

Businesses can access capital from issuing shares, debt and cash equity. In order for BT to minimize its weighted average cost of capital (WACC) and therefore maximize the returns it makes for its investors (Watson & Head), it has to access capital from all sources and at varied amounts.

Originally BT raise £2bn through share placing in order to assist the financing of this deal, however its since that original decision in December, it’s stock rose 15pc meaning it was able to increase capital put towards the deal from company equity and reduce the share placing. (Roland, 2015). In addition T-Mobile is proposed to be receiving a 12% share in the merged company, with one non-executive board member position, and Orange a 4% share. (Thomas, 2015)

Although BT has used other sources of finance to fund part of this deal, it will still have to raise some capital through debt. This along with the debt the company will absorb from EE will take the company’s debt levels to 1.4 times earnings before tax and depreciation. (Roland, 2015).

The significant increase of 0.4 times earnings, however this has been carefully scrutinized by the business and this still allows them to maintain their current credit rating. As a result manipulating the sources of capital funding has allowed the business to maintain it’s credit rating, which will affect interest payable by the business, and any future borrowings the company may wish to undertake. Leading on even further, it has successfully minimized the WACC of this acquisition and therefore maximized the returns for investors.

In addition although increasing debt levels may seem undesired by businesses as it increases their liabilities, it does draw benefits to the business. Increasing debt levels allows the company to reduce tax liabilities and in the current financial market, where interest rates are so low, it is a relatively cheap source of finance. Apple, for example are the largest public company in history and have cash reserves of over $100bn. However they recently borrowed $6.5 for general corporate purposes, which also allowed them to avoid heavy US Tax bills. (Williams, 2015)

Overall the cost of capital is complex, but if correctly managed can ensure maximum returns for investors. BT have clearly analyzed all sources of capital and created a formula whereby they are able to achieve the best possible outcome for their investors.

References

Roland, D. (2015, Feburary 12). BT unveils £1bn share placing to help fund EE takeover. Retrieved March 16, 2015, from The Telegraph: http://www.telegraph.co.uk/finance/newsbysector/mediatechnologyandtelecoms/telecoms/11407624/BT-unveils-1bn-share-placing-to-help-fund-EE-takeover.html

Thomas, D. (2015, Feburary 12). BT raises £1bn to help fund EE acquisition. Retrieved March 16, 2015, from Financial Times: http://www.ft.com/cms/s/0/6a09a1e0-b2d0-11e4-b234-00144feab7de.html#axzz3aISVhmJy

Watson, & Head. Corporate Finance: Principles and Practice: . Harlow: Pearson.

Williams, C. (2015, Feburary 02). Apple to borrow '$6.5bn' despite record profits. Retrieved March 16, 2015, from The Telegraph : http://www.telegraph.co.uk/finance/newsbysector/banksandfinance/11384597/Apple-to-borrow-5bn-despite-record-profits.html