What is Recapitalization?
Recapitalization is a form of corporate restructuring that involves significant restructuring of a company’s finances. Companies often use recapitalization to stabilize the company’s capital structure to prevent a hostile takeover or avoid bankruptcy.
By exchanging different forms of financing, companies can reconfigure their mix of debt and equity.
There’s an old saying that it takes money to make money. A business will often borrow money — capital — to pay its bills or cover its costs before it sees a profit on whatever it produces. There are two main ways a company can capitalize. One is by taking on debt in the form of loans or bonds.
In either case, it will have to pay back the amount borrowed plus interest. The other is by selling equity, such as shares in the company, in which investors inject cash in exchange for partial ownership, or equity, in the business.
Over time, a company may find it advantageous to shift the proportion of the capital it has secured from debt to equity, or from equity to debt. This rebalancing is known as recapitalization.
Why companies use recapitalization
Where and how a business secures capital is fundamental to its existence, its opportunities, and its future. There are many reasons why a business might recapitalize. For the owner of a successful, growing business, recapitalization could make new cash available to upgrade its facilities or buy another business to bring its capabilities under its roof.
Conversely, if that successful owner is closer to retirement than to an ambitious early growth phase, recapitalization could be integral to their succession or exit plan. It functions as an alternative to selling the business outright before they’re ready to let go.
As the economy or business conditions change, recapitalization could take advantage of shifting interest rates or stock prices. This allows the company to get better terms on borrowed money, in much the same way an individual might refinance their mortgage if interest rates plummeted. For really struggling businesses undergoing bankruptcy, recapitalization won’t even be a choice; it will be a requirement as a means of both preserving the business and making creditors whole.
One of the things a business will consider when recapitalizing is how much control it wants to retain over its future. For example, if a business sees an opportunity to buy a facility that will help it grow, it could take out a loan. While it would owe the money, it would retain control over its destiny.
The company could also turn to private equity investors who will happily front the money for the acquisition but will become part-owners with certain expectations for the future growth and direction of the business. In fact, one common reason for a business to recapitalize is a desire to borrow money, say through bonds, to buy back shares and increase its ownership stake. This could also save the company money if the interest paid on borrowed money is lower than the dividends it owes shareholders.
Examples of recapitalization
One recent example of recapitalization is that of a global construction company, dck worldwide, LLC, based in Pittsburgh, Pennsylvania. In May 2021, the company announced that it had been recapitalized for an undisclosed sum by New York-based Arena Investors. dck currently has construction projects, mostly upscale hotels, underway around the world with a total project value of $38B.
The purpose is to take advantage of current market conditions. This recapitalization is born out of confidence and optimism that investing now will pay off handsomely.
According to dck chairman Jeff Hoopes, "Arena's involvement comes at a critical juncture, allowing dck to continue to service our large customer base, particularly as Caribbean leisure travel resumes to pre-pandemic levels. In addition, Arena's partnership allows dck to expand its total building solutions package, including capital solutions, LEED, preconstruction services, general construction, and procurement and logistics."
Through the disruptions of the Covid-19 economy and its associated restrictions and shutdowns, recapitalization has also been a tool for companies in big trouble. Consider the Eiffel Tower. It’s not just the most recognizable landmark in Paris, but it’s also a business operated by the Societe d’Exploitation de la Tour Eiffel — one that has lost 120M euros over the past year. It faces the prospect of reopening in mid-July 2021 to a fraction of its normal annual visitation. The operators say they will have to recapitalize soon to cope with the debt they’ve incurred over this time.
Recapitalization is a strategy for restructuring a company’s capital structure to improve its mix of debt and equity. It’s used for a variety of reasons, from taking advantage of current market conditions to avoiding a hostile takeover or bankruptcy.