4 ms·

It's not that weird if you think about it. I don't have a million dollars, but I can buy a million dollar house. A bank promises to lend me a million dollars c

by bko 5y ago

It's not that weird if you think about it. I don't have a million dollars, but I can buy a million dollar house. A bank promises to lend me a million dollars contingent on buying the house and then the loan will be collateralized by the house, which I don't own yet.

belter 5y ago
Or a margin call, for Elon Musk if Tesla stock goes down in price, and he will be forced to sell billions in shares to pay for it. I wonder what Tesla shareholders think about all this ;-)
- bko 5y ago
  They do. That's why they have a policy that you're not allowed to borrow more more than 25% the value of the stock > Tesla has a policy in place of letting directors and officers only borrow up to 25% of the value of their stock. And Elon Musk has already pledged about 88 million shares against indebtedness, according to Tesla's 2021 proxy filing. That leaves him with only another 85 million shares to raise debt with. https://www.barrons.com/articles/tesla-ceo-elon-musk-twitter-financing-51650118671?tesla=y https://www.barrons.com/articles/tesla-ceo-elon-musk-twitter...
  - throwaway2037 5y ago
    Great find! Is this normal policy at other companies? On the surface, it seems like a good idea. If you pledge 100%, and the company share price takes a dive, you might be inclined to do crazy things with the company to try to recove the share price!
    - bombcar 5y ago
      Something akin to it is common, and the SEC may even require "large shareholders" to file when they've encumbered their shares, but I don't know the details.
  - belter 5y ago
    It's about the downward pressure on the stock if he has to sell, not only because of highly visible profile but the amount of shares pledged :-)
- bilbo0s 5y ago
  Is there anything TSLA shareholders might try to protect themselves from this eventuality? Any sort of hedging strategies we can expect a lot of money to flow into?
padobson 5y ago
This is a good analogy, but for it to apply to this situation, the house would have to be on property that has oil or lithium deposits. Once you have the property, it pays for itself, like the profits from Twitter would in this case. If it ends up not being profitable, the bank takes back the house (or Twitter, or more likely the TSLA stock Elon put up as collateral)
- bko 5y ago
  I don't know if its that meaningful of a distinction. The property does generate profits in that you could rent it out. But yeah, you can finance traditional businesses like that. Buying with debt is generally a good idea because you juice your returns with someone else's money. Of course you give up some fixed amount and take first loss but in general debt is absolutely necessary to make the economics work. If you can buy a valuable asset for $1 and have a bank cover $9 and it yields 10% return, you're making $1 from $1 invested (minus interest) compared to someone that bought it outright (making $1 on $10 or 10% return). The bank has no upside. If you invest in something bad though or the rate is too high the math changes and you lose 100% if the asset ends up being worth <= $9. That's leverage
  - padobson 5y ago
    Yeah, fair enough. Musk could either "rent" Twitter and pay the money back with profits or "live in" Twitter and direct it toward some other purpose and use his other activities to pay back the debt. So my mineral rights addendum was unnecessary. On a related note, I always find the loans where the borrower takes on personal liability are in a completely separate category of risk. Anytime you put yourself in a situation where you could possibly ruin your future prospects or mortgage your future labor to a financial institution is much different than your net worth (and your investors' principal) simply going to zero.
  - bombcar 5y ago
    The biggest danger of leverage is the "margin call" or calling the loan - the most common form of leverage people are exposed to prohibit this calling - if you buy a house today on a normal 30 year fixed mortgage in the USA, the bank cannot call the loan if you continue to make payments, even if the house value drops way below the original amount collateralized. In some states, such as California, a purchase loan is non-recourse, so you could walk away (and many did in the last housing downturn) and the bank can't do anything beyond take the house. This means if you can weather the downturn you don't get wiped out, you borrowed 80% of the house to buy, put 20% down, it went down 30%, you were underwater, but continued to make payments, and now it's up 20% above where you started. Margin loans against stocks, etc do not have this, so if you borrowed against $1k worth of stocks you had, and they dropped in value below what the bank wants you to keep as collateral, they can force you to sell at the lower price (or produce more cash/collateral). This means that with leverage you could be right in the long term but wiped out in the short term.
FerociousTimes 5y ago
What about repayments? You still have to pay off your debt to the lender according to the plan set out in the loan agreement, where will these come from? You haven't crossed the finish line by securing the loan, you cross it by transferring the title to your name and repaying the loan (principal + interests) fully.
- Teandw 5y ago
  All the funds raised would become loans to Twitter -- So Twitter as a company would repay those loans.

by bko 5y ago

belter 5y ago

Or a margin call, for Elon Musk if Tesla stock goes down in price, and he will be forced to sell billions in shares to pay for it. I wonder what Tesla shareholders think about all this ;-)

bko 5y ago
They do. That's why they have a policy that you're not allowed to borrow more more than 25% the value of the stock > Tesla has a policy in place of letting directors and officers only borrow up to 25% of the value of their stock. And Elon Musk has already pledged about 88 million shares against indebtedness, according to Tesla's 2021 proxy filing. That leaves him with only another 85 million shares to raise debt with. https://www.barrons.com/articles/tesla-ceo-elon-musk-twitter-financing-51650118671?tesla=y https://www.barrons.com/articles/tesla-ceo-elon-musk-twitter...
- throwaway2037 5y ago
  Great find! Is this normal policy at other companies? On the surface, it seems like a good idea. If you pledge 100%, and the company share price takes a dive, you might be inclined to do crazy things with the company to try to recove the share price!
  - bombcar 5y ago
    Something akin to it is common, and the SEC may even require "large shareholders" to file when they've encumbered their shares, but I don't know the details.
- belter 5y ago
  It's about the downward pressure on the stock if he has to sell, not only because of highly visible profile but the amount of shares pledged :-)
bilbo0s 5y ago
Is there anything TSLA shareholders might try to protect themselves from this eventuality? Any sort of hedging strategies we can expect a lot of money to flow into?

padobson 5y ago

This is a good analogy, but for it to apply to this situation, the house would have to be on property that has oil or lithium deposits. Once you have the property, it pays for itself, like the profits from Twitter would in this case. If it ends up not being profitable, the bank takes back the house (or Twitter, or more likely the TSLA stock Elon put up as collateral)

bko 5y ago
I don't know if its that meaningful of a distinction. The property does generate profits in that you could rent it out. But yeah, you can finance traditional businesses like that. Buying with debt is generally a good idea because you juice your returns with someone else's money. Of course you give up some fixed amount and take first loss but in general debt is absolutely necessary to make the economics work. If you can buy a valuable asset for $1 and have a bank cover $9 and it yields 10% return, you're making $1 from $1 invested (minus interest) compared to someone that bought it outright (making $1 on $10 or 10% return). The bank has no upside. If you invest in something bad though or the rate is too high the math changes and you lose 100% if the asset ends up being worth <= $9. That's leverage
- padobson 5y ago
  Yeah, fair enough. Musk could either "rent" Twitter and pay the money back with profits or "live in" Twitter and direct it toward some other purpose and use his other activities to pay back the debt. So my mineral rights addendum was unnecessary. On a related note, I always find the loans where the borrower takes on personal liability are in a completely separate category of risk. Anytime you put yourself in a situation where you could possibly ruin your future prospects or mortgage your future labor to a financial institution is much different than your net worth (and your investors' principal) simply going to zero.
- bombcar 5y ago
  The biggest danger of leverage is the "margin call" or calling the loan - the most common form of leverage people are exposed to prohibit this calling - if you buy a house today on a normal 30 year fixed mortgage in the USA, the bank cannot call the loan if you continue to make payments, even if the house value drops way below the original amount collateralized. In some states, such as California, a purchase loan is non-recourse, so you could walk away (and many did in the last housing downturn) and the bank can't do anything beyond take the house. This means if you can weather the downturn you don't get wiped out, you borrowed 80% of the house to buy, put 20% down, it went down 30%, you were underwater, but continued to make payments, and now it's up 20% above where you started. Margin loans against stocks, etc do not have this, so if you borrowed against $1k worth of stocks you had, and they dropped in value below what the bank wants you to keep as collateral, they can force you to sell at the lower price (or produce more cash/collateral). This means that with leverage you could be right in the long term but wiped out in the short term.

FerociousTimes 5y ago

What about repayments? You still have to pay off your debt to the lender according to the plan set out in the loan agreement, where will these come from? You haven't crossed the finish line by securing the loan, you cross it by transferring the title to your name and repaying the loan (principal + interests) fully.

Teandw 5y ago
All the funds raised would become loans to Twitter -- So Twitter as a company would repay those loans.