Finance and Deluxe

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Executive Summary
Despite being one of the marketing leaders in the check printing industry, Deluxe Corporation is incapable of incorporating the best capital structure. Failure in exposure to the advantages of debt financing has force it into higher costs of finance. Meanwhile, the emergence of new technology, e.g. electronic payments, has forced Deluxe to streamline its business and has constrained the firm to focus on only its core activities. This unfavorable external environment the firm is facing has driven a need of debt financing.
Problems with current financial structure are as follows: 1. Deluxe will have insufficient cash to support its long-term stock repurchase program. 2. Flexibility is not well managed by
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Assuming Deluxe will spend same amount of what it spent in 2001 in repurchasing in coming years (Exhibit 1), it is undoubted that external funds have to be raised in order to pursue this kind of aggressive restructurings. The amount of debt to borrow depends on 3 main criteria, bond rating, flexibility and cost of capital. Based on flexibility analysis (Exhibit 2), both scenarios, expected and pessimistic, show a negative relationship between the bong ratings and maximum debt capacities implied by EBIT interest coverage. As a firm is taking on more debts, the financial risks associated with the debts increase and therefore lower the bond rating of the firm. The drastic increase in maximum debt capacity between A-graded bond and BBB-graded bond together with the low yield spread reveals a distinct advantage possessed by BBB-graded bond in terms of flexibility. Against the pessimistic scenario, issuing BBB-graded bond will left Deluxe with $199 millions of unused debt at minimum before downgrading, which will be sufficient to sustain the daily operations of a check-printing company in case of recession. Regarding cost of capital, the assumption made by Hudson Bancorp about equity investors somewhat oversimplifies the market. An increase in financial risk decreases a firm’s market value which

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