Kohl’s is reducing its debt burden and preparing to reward shareholders
During the first wave of the COVID-19 pandemic last spring Kohls (NYSE: KSS) sought to support its liquidity by issuing new debt and expanding its credit facility. Still, the retailer weathered the pandemic easier than management and investors expected. Thanks to his careful management of expenses and working capital, Kohl generated approximately $ 1 billion in free cash flow in fiscal 2020.
As a result, the department store chain stepped in with a ton of excess cash this year. Recently, it has used some of that money to pay off debts.
Even so, Kohl’s still carries more cash than it needs. On Wednesday, the company significantly increased its share buyback authorization, suggesting it will return cash to shareholders faster than previously expected.
Kohls restructures its balance sheet
Late last month, Kohl announced that it would buy back approximately $ 1 billion in debt through a tender process. By the end of last week, the owners of $ 1.04 billion in debt due between 2023 and 2025 had agreed to the terms of the takeover bid. Kohl accepted all of these debts for purchase.
Due to the prevailing low interest rate environment, Kohl’s pays a premium for the repurchased debt. That premium ranges from 5% for the lowest-yielding bond covered by the takeover bid to a whopping 30% for sky-high coupon bonds Kohl issued at the height of the crisis last year. As a result, it spent approximately $ 1.24 billion to complete the takeover bid.
Kohl entered fiscal 2021 with nearly $ 2.3 billion in cash on the balance sheet. In short, she could easily have paid the cost of her takeover bid with cash. Instead, Kohl paid for part of the takeover offer by issuing new debt totaling $ 500 million. This enabled him to hold onto a low coupon of 3.375% for 10 years.
Reduction of future interest expenses
The takeover offer will reduce Kohl’s interest expenses in the future. Most notably, Kohl’s repurchased over 80% of the high-yield debt ($ 487 million at face value) issued last year. This alone saves $ 46 million pre-tax annually.
Including the other debts covered by the tender offer – minus the interest expense related to Kohl’s most recent debt issuance and a negligible amount of lost interest income – the tender offer will reduce future interest costs by approximately $ 50 million annually.
More buybacks on the way?
Even after the latest debt reduction measures, Kohl’s is well on its way to closing the first quarter with well over $ 1 billion in cash. Additionally, it is likely to have another year of strong free cash flow in fiscal 2021, especially as it will receive a tax refund totaling hundreds of millions of dollars later this year.
Kohl’s quarterly dividend of $ 0.25 per share costs a modest $ 158 million a year. And the company has no maturities until 2023 – and less than $ 800 million due by the end of the decade.
This means that the department store retailer has significantly more cash than he needs. On Wednesday, Kohl’s announced that it had increased its share buyback authorization to $ 2 billion – from $ 726 million at the end of January – under a settlement agreement with activist investors who had pressured the company.
Kohl warns that he is under no obligation to use this full buyback authorization. But aside from short-term setbacks for the business, it seems likely that it will buy back a lot more shares this year than the $ 200-300 million it planned to spend in early March.
Thanks to competitor store closings, resurgent consumer demand, and Kohl’s growing number of brand partnerships, the company’s sales and earnings could recover quickly in the next two to three years. An intensified share buyback program would accelerate the resulting growth in earnings per share. While Kohl’s stock has nearly tripled in the past six months, there is still plenty of upside potential for long-term investors.
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