stone wrote:
Smurff, your explanation makes it all make sense- cheers. Is it correct that some companies (such as Apple?) do not have debt and so would be entirely immune to such pressure from short sellers?
Thank you Stone, I'm glad my long missives make sense.
I haven't looked at Apple's financials lately, so I don't know how much debt that company may have.
But public companies that have no debt, but are traded on major exchanges also have to worry about investors, actual and potential, who can make or break them.
Not all stock selling takes place over the exchanges. Corporations retain some of their own shares when they go public; they also do stock buybacks when their stock price sinks to a level where it is a bargain. They then keep these shares in their own treasuries. The industry calls them "treasury shares." Those companies often sell these shares at higher prices later--usually in blocks, directly to large entities like banks, insurance companies, and pension funds--to raise cash. Some companies just hold on to them as a cushion to help keep hostile investors from taking over the company. Corporations can sell treasury shares instead of, or in addition to, borrowing money. If a large company has no debt on their books, this is most likely the way they raise large amounts of money (outside of funds from earnings) when they need them to launch a new product, buy another company, etc. Employees who receive shares as part of their compensation (bonuses, 401Ks, employee stock purchase plans, etc.) get paid from treasury shares.
Those large entities who buy direct from the corporation pay market rate or thereabouts, and the money they pay for the shares go directly to the corporation. That's unlike the shares you see sold on the open market, where the funds paid for them go to the investor who sells them, with fees to brokerages, but nothing to the corporation except glory at being popular. So even though a company may have little or no debt on their books, if short sellers come after them and force the price of the shares down, that can dry up a major source of corporate funding. (If they sell treasury shares anyway when under price pressure, that's an indication that something is wrong.)
Another issue no-debt companies have to be careful of is that the large entities (pension funds, insurance companies, etc.) often have rules on the minimum price per share of the publicly traded stocks in their portfolios. Usually that minimum price is around $10--a few as low as $5--so a company whose share price dips from short selling pressure to that point may find itself in real trouble. Pension fund managers will begin calling the corporation's CFO at home, then start calling their hedge-fund friends at their kid's parties, and that's AFTER automated programs have begun divesting. A steep share price decline can tarnish the company's reputation, whether warranted or not. Even today, there are a few people who refuse to invest in Apple shares because of how badly they managed their share price in the 1990s (just over $3.00 per share in late 1997). They don't trust them, no matter how great their products are.
If a gang of determined short-sellers force a major decline in the company's share price, several things can happen. If the company has debt, it can end up in default if it has certain covenants; if the company doesn't have debt, it won't want to sell its treasury shares and a source of funding is cut off.
As the price goes down and down, and it's a company with great products or too much cash on the balance sheet, it can become a takeover target--which reduces its ability for self-determination in running its business affairs. (I'm saying this as if the corporation were a person. Right.)
That's why the management of the company's share price can consume a big chunk of the corporate executive division's time and resources. They hire consultants to help them with the latest strategies for doing so. In some companies, that's all (apparently) that the CEO, CFO, and Board of Directors do, along with setting their own salaries and bonus plans.
