For the last few months, RadioShack (RSH) has been trading with a P/E in the mid-to-high single digits, potentially putting it in value territory. One of the appealing factors of RadioShack from a value standpoint is its strong financial position. But that may change, as management appears willing to make a significant bet that the company's share price is too low.
Management has reduced the company's share count by 15% in just the last 9 months. Obviously, it eats up a lot of cash to execute such a significant buyback, which has contributed to a large reduction in the company's cash surplus. But management appears undeterred, as it now appears poised to borrow money to further its buyback agenda.
Last week, RadioShack announced that it is has issued $325 million of debt. Since the firm already has more than enough cash to fund its anticipated capital programs, it's quite likely that this money will be used to buy back shares. The following statement from the company a couple of weeks ago hinted at this further:
"RadioShack intends to use net proceeds from the offering for general corporate purposes, which may include the funding of share repurchase programs."
At the current share price, $325 million would enable the company to buy back around 20% of its outstanding shares! But this buyback comes at a price, however, as the company would likely no longer be in a rock solid financial position. The new $325 million of debt would be in addition to the company's $550 million of lease commitments.
Traditionally, this may not have been a problem, as RadioShack has been a stable generator of cash, which should allow it to safely carry some debt. However, the company does face some challenges in the future that could jeopardize this position. Consumer purchases continue to migrate online at the expense of bricks and mortar operations such as those of RadioShack. But even in the bricks and mortar space, strong competitor Best Buy (BBY) has decided to move into smaller-format stores, which could directly impact RadioShack in a way that Best Buy's big-box stores never have.
On the other hand, however, the secular growth of electronic products appears poised to continue. If RadioShack can continue to ride the wave, share prices today are likely undervalued. Management appears to be signalling its opinion of RadioShack's stability with these buybacks, but there is no doubt that the company's risk level has increased along with the potential for out-sized returns.
Disclosure: Author has a long position in shares of RSH