Investors will want to read a brief article by Marie Leone on this question in CFO Magazine. There are 4 main ways a company can choose to utilize its cash flow. Of course, a company can choose to reduce its debt load in order to preserve or raise its credit rating. Bondholders would certainly agree with this approach, though shareholders would more likely tolerate a higher leverage of net debt to EBITDA (Earnings before interest, taxes, depreciation and amortization). A company can also use its free cash flow to invest in opportunities that are an acceptable combination of growth potential vs. risk. A company can also choose to put some money back in shareholders' pockets by paying out a dividend or by repurchasing its stock.
There is not one single approach that is optimal in all circumstances. What matters most is that a company in fact has a transparent cash management policy in place that factors in the direct relationship between a company's target debt level and its share repurchases. It also matters that investors can find out what the company policy is.
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Reader Comments (Page 1 of 1)
12-07-2007 @ 5:10AM
EF said...
That depends on what your crystal ball says, doesn't it?
If you think a recession is going to reduce profits, then your best bet is to pay off your loans as quick as you can -- while the profits are still there.
If you think you we are going to inflate our way out of this housing crisis, then there seems to be little hurry to pay of your current debts since they'll cost less the longer you wait.
Just make sure you don't need to refinance at a much higher interest rate in the future!