What is leveraged recapitalisation?

Leveraged recapitalisation is a corporate strategy in which a company takes on significant new debt and uses the money either to pay a large dividend to shareholders or to buy its own shares.

Where have you heard about leveraged recapitalisation?

As an investor, you may have been made aware that a company in which you are invested is to undertake a leveraged recapitalisation. Your financial adviser may have explained that this will have the effect of reducing company's equity and increasing debt.

What you need to know about leveraged recapitalisation.

This technique is also known as a 'shark repellant', as it can be used to discourage off a hostile takeover bid. This is done by adding debt to the firm's book, making it a less attractive proposition for the bidder.

Professor Ian Giddy of New York University says: "The result is a far more financially leveraged company, usually in excess of the 'optimal' debt capacity."

Leveraged recapitalisation is seen to be a a takeover defence, but the technique can also be used proactively, as a method of using debt's effect to improve performance, therefore increasing shareholder value. The market response to announcements of leveraged recapitalisation depends on if they are defensive or proactive; and the effects can be so varied that research results are inconclusive.

In cases where a big dividend is paid, says Professor Giddy, the value of that payout plus the share price must exceed where the share price stood previously if the exercise is to be judged a success by observers.