Earlier today, my colleague Rick Munarriz wrote about the secondary offering that is being made by Income Investor selection Cedar Fair (NYSE: FUN ) . Rick's take on the offering is mildly negative, but I see a different story here.
Before I jump into my take, I should point out I don't own shares in Cedar Fair or follow the company all that closely. However, I do follow a number of REITs, and Cedar Fair is a Master Limited Partnership (MLP) -- a legal structure similar to the REIT structure in that taxable income passes through to shareholders (unit holders in this case) and isn't allowed to build up in the company coffers to finance growth. For REITs such as Boston Properties (NYSE: BXP ) and Vornado (NYSE: VNO ) the story is slightly different, since the requirement is to pay out 90% of taxable income to shareholders.
When a company that is an MLP wants to expand or make an acquisition -- as Cedar Fair is doing by purchasing the theme park business from CBS (NYSE: CBS ) -- the company has to raise capital from the debt or equity markets. A look at Cedar Fair's balance sheet confirms this, since the company had only $4.5 million in cash at the end of March (and also had $504.6 million of long-term debt and $382.7 million in shareholder equity).
Rick correctly points out that Cedar Fair had already taken on $2 billion of debt to finance the acquisition from CBS. I haven't checked to see whether the company refinanced some of its $504.6 million in debt with the $2 billion offering, but let's assume they did not. That gives the company a total debt load of $2.5 billion, but still only $382.7 million in shareholder equity. This puts the debt-to-equity ratio at 6.5, which is quite high, even though Cedar Fair will be getting some cash-generating assets from its acquisition.
The high debt-to-equity ratio means that Cedar Fair would likely be faced with much higher rates if it needed to obtain more debt for any reason in the near term. My take is that by issuing equity and paying down some of the debt, Cedar Fair is bringing its debt-to-equity ratio back down. It's also creating some additional flexibility for itself -- should it need additional debt financing before being able to pay down the debt with cash from operations. It's not pretty, but I think it is the right long-term move for the company. By raising equity, it can manage its weighted average cost of capital and credit rating, while still leaving flexibility to go back to the debt market if necessary.