Select Comfort Gets Firm Boost

Select Comfort shares trade higher on equity deal

Today, Select Comfort Corp. (SCSS - Snapshot Report) announced that a private equity firm, Sterling Partners, will purchase 50 million shares of SCSS common stock at $0.70 per share, for a total investment of $35 million. Sterling Partners will own 52.5% of the company. The deal will also enable Select Comfort to amend its existing credit agreement. The amended credit agreement would provide maximum availability of $70 million, include new covenants and extend the maturity from June 2010 to December 2012. The combination of the equity infusion and the amended credit agreement would provide longer-term financial flexibility for the company.

Select Comfort shares were up as much as 34% on this news. This bullish response reflects the view that the worst case scenario -- that Select Comfort would not be able to service its debts -- is off the table. Even so, Select Comfort shareholders paid dearly to avoid the worst case scenario. The equity sale is highly dilutive to current shareholders, increasing the number of shares from 45 million to 95 million.

Despite the massive dilution to current shareholders, we would not be surprised to see more deals like this announced by retailing companies in the same financial position. Take a retailing firm that levered up its balance sheet when times were good to open new stores, open new distribution centers, and repurchase its own stock. That same firm has watched its sales fall off a cliff, but it still carries a high level of debt that was based on a higher level of revenues. A firm in that position would be better off massively diluting its shareholders to pay down debt because the alternatives would be much worse.