Companies from Home Depot to Johnson & Johnson are borrowing a page from the private equity playbook by accumulating debt to boost returns - and Wall Street is lending a helping hand.

In a growing practice known as leveraged recapitalization, companies increase returns by floating debt and using the proceeds to buy back stock or pay special dividends. These transactions are especially attractive now, when low interest rates make debt financing cheap.

Recaps are also a response by corporate chiefs who see the windfall generated by private-equity firms and want to perform their own financial engineering, stay in control and please shareholders.

There's some feeling out there, 'if I don't do it, somebody will do it to me', Standard & Poor's credit analyst Nick Riccio said. Some companies may say, 'Maybe I don't want go all the way private, so I'll buy back some of my stock'.

Stockholders reap healthy gains when leveraged buyout offers boost their shares. But some investors question why companies cannot create the same windfall wealth generated by buyout firms such as Blackstone Group LP.

As an alternative, Citigroup, Merrill Lynch and other Wall Street banks say companies can reap the benefits of an LBO and maintain control by increasing debt.

If a company adds leverage to a good business model, it leaves its future potential in shareholder hands, said John Chirico, Citigroup co-head of U.S. equity capital markets.


According to S&P's Leveraged Commentary & Data, companies have floated $47.7 billion of debt for recaps during the first half. That nearly matched the $48.7 billion issued last year and exceeds the $34.8 billion of 2005.

Last month, online travel company Expedia Inc said it would buy back a third of its shares for $3.5 billion and its stock rose 15 percent. Home improvement retailer Home Depot Inc - like Expedia considered an LBO candidate -- announced plans to buy $22.5 billion of its stock, or 28 percent of its market capitalization.

Brewer Anheuser-Busch Cos Inc said in December it would seek more aggressive leverage to enhance shareholder value. Its stock soared 14 percent before paring gains last month.

Even companies beyond the reach of LBOs are using similar tactics to revive their shares.

Conglomerate General Electric Co announced on Friday that it would buy back $12 billion worth of stock by the end of this year. That followed Monday's announcement that drugs giant Johnson & Johnson will repurchase stock worth $10 billion, or 5.5 percent of its outstanding shares.

Although recaps are popular among equity investors, they hurt debt holders since more leverage prompts rating agencies to downgrade companies.

We've suggested that LBOs may be the guillotine of credit quality, but the leveraged recap can also cause quite a painful paper cut, said Credit Suisse credit strategist Ira Jersey.

In an extreme case, Health Management Associates Inc issued $3.25 billion in debt in January to fund a $2.4 billion special dividend. For its efforts, HMA saw its ratings cut five notches to a highly speculative BB rating.

That move was followed by rival hospital operator HCA Inc.'s $33 billion LBO. Home Depot, Anheuser and Alcoa have also suffered rating cuts.

Wall Street executives said many U.S. companies are in a strong position to tap balance sheets that were strengthened after the Enron and WorldCom collapses prompted calls for stronger credit. Credit Suisse says debt levels relative to cash flow last fall were the lowest in 30 years.

Increasingly, investors are tolerating higher debt and lower ratings among companies seeking better returns. It also helps that the spread between the cost of high and low quality debt is thin, making downgrades less painful.

With all the private equity deals, there is perhaps a renewed acceptance of leverage and not as much of a deferential attitude toward high ratings, said Peter Toal, head of Lehman Brothers U.S. high yield syndicate. If adding leverage can help their stock price, CEOs are open to doing that.