American Superconductor offer electric power infra structure from its generation to distribution. AMSC is the leader in alternate energy. The company has two main business units: AMSC power systems and AMSC Superconductors. AMSC Superconductors American Superconductor has spent nearly 18 years as public limited company developing transmission wires of high quality in order to generate and deliver power. The Company has been posting continuous losses and mostly dwindling on cash.
It has however posted recently its first ever profit for the quarter ended 31st March 2009 by earning a profit of $1. 3 million or 3 cents per share. (MSN Money) Debt Verses Equity Financing Equity and debt financing both have their advantages and disadvantages explaining why most big companies select an optimal capital structure which is a mix of debt and equity. Theoretically having a higher ratio of debt in the capital structure maximizes the return on equity. The interest payments on debt are tax deductible and usually the cost of debt is much lower than the cost of equity.
With debt financing a company pays a fixed interest payment irrespective of the amount of profit or growth it has achieved i. e. it does not have to share its profits with its creditors. For a profitable company requiring extra capital, “debt financing” is the best option because with debt financing it does not have to share its profits or the ownership of the business with others. Equity injection however results in further dilution of earnings and management control. With the above argument one may feel that debt financing is the best option.
Debt financing is a good option as long as the company has huge profits and liquid assets to support it. For a business that is facing losses, debt payments can be a huge burden in the form of interest payments. The creditors will have to be paid while the stockholders on the other hand will not get any dividends since the company is only making a loss. We can therefore say that equity financing puts less of a burden on a company’s financials when profitability is depleting or business is posting a loss.
Higher equity percentage in the capital structure impacts the financial ratios of the company positively. Restructuring to 100% Equity It all started after the 2003 black out which occurred due to the over load of power grids and American Superconductors stocks surged by nearly 42% as an expectation that the quality wires manufactured by American Superconductors could be used to relieve congestion on the power grids. The company took this situation as an opportunity and the managers and board of directors decided to forgo debt financing of $50 million and adopt an equity financing strategy.
The company raised $51. 1 million by selling shares which helped strengthen the balance sheet and enhanced the liquidity condition of the company. American Superconductors however continued making losses, but conversion of capital structure to 100% equity allowed the company to reduce its interest expense significantly. Since higher leverages magnifies return on equity of a profitable business but also maximizes the loss by putting additional pressure on the profit and loss account of a company.
AMSC after converting to 100% equity capital structure saved millions of dollars every year in terms of interest expense. Recently AMSC has posted its first profit since the capital restructuring in 2003. If AMSC had not converted to equity financing it would have had a major problem financing its cash needs and credit worthiness would have gotten worse. The Debt to Equity ratio would have increased and debt would have gotten more and more expensive for the company thus increasing the interest expense of the company and it may have never became profitable.
Long term debt continues to be zero whereas the number of outstanding shares can be seen increasing from 19. 7 million shares to 41. 5 million shares. Conclusion American Superconductor being a technology company had to face many challenges such as failed projects, higher cost of business and ever changing environment. Board of Directors in my opinion took a very good decision by not using long term debt in their capital structure. AMSC has been a subject of criticism but it has finally posted a profit and if it stays profitable they might want to rethink their optimal capital structure.
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