Buybacks Are Overrated

Why Management Loves Share Buybacks
Share repurchases are a backdoor way to pay executives.
Bloomberg,  November 11, 2015




During the past three years, members of the Standard & Poor’s 500 Index have spent more than $1.5 trillion buying back stock. This has led to a reduction in their shares outstanding of at least 4 percent in just the past year alone, by some measures.

Or has it?   

A recent research report published by Research Affiliates (RAFI) cast doubt on that share reduction count.

According to RAFI’s study, U.S. companies issued stock equal to $1.2 trillion last year. All told the new issues in 2014 exceeded share buybacks.

The RAFI study also found that “the cash flow statement often fails to report the majority of a company’s stock issuance.” Much of that unreported issuance is used as compensation for employees, primarily management. “When management redeems stock options, new shares are issued to them, diluting other shareholders” the report further notes. “A buyback is then announced that roughly matches the size of the option redemption. This facilitates management’s resale of the new stock.”

The conclusion is that what looks like buybacks are actually thinly veiled management-compensation plans, or in RAFI’s words, “simply a mirage.”

Looking back over the period from 1935 to 2014, the historical dilution rate for equities is 1.7 percent, which is in line with last year’s dilution rate of 1.8 percent. Despite the talk about surging buybacks, the net changes have been only slightly more dilutive than average.

The poorly disclosed compensation structure is only half of the problem with buybacks. Timing and pricing are another big issue.

Consider Caterpillar. The Wall Street Journal’s Justine Lahart notedthat the company had spent $8.3 billion to buy back 91 million shares at an average price of $90.71. The shares now trade at about $72, more than $1.5 billion less than Caterpillar paid for those shares.

Wal-Mart, which is perpetually buying back its shares, provides a textbook example of why a company shouldn’t do repurchases until it has checked off everything else on a to-do list for cash uses. For years, the company let the condition of its stores slide as we discussedearlier this year. Eventually, customers noticed, which forced Wal-Mart to start cleaning things up — but only after its stock took a beating on disappointing earnings and a pessimistic profit forecast. It makes you wonder why the billions it spends every year on buybacks wasn’t used earlier to keep its stores in shape.

When it comes to using stock buybacks for management to compensate itself, the crown might belong to Dell. From 1998 to 2006,according to the New York Times’ Floyd Norris, “Dell reported net income of $17.9 billion — and it spent $24.1 billion buying back stock.” The longer the time period you look at the worse it gets. From 1997 to 2012, Dell purchased $39 billion in shares — more than the company has reported in net income over the entire course of its existence.

No wonder it went private.

The timing of Dell’s buybacks was consistently terrible, but since the costs were paid by shareholders and the proceeds went to management, the C suite never seemed to care much. Harvard Business Review looked at the phenomena and called it “Profits Without Prosperity.”

The runner up to Dell might be Qualcomm. As the Times’ Gretchen Morgenson noted this summer, during the past five fiscal years, Qualcomm repurchased 238 million shares at a cost of $13.6 billion.

Despite that huge buyback program, the Times wrote, “Qualcomm’s average diluted share count has actually increased over the period by almost 41 million shares. That’s a 2 percent rise since 2010…because the company has been granting a treasure trove of stock and option awards to its executives.”

Qualcomm paid an average of $56.14 a share for stock that now trades for about $4 less. In other words, it overpaid by almost $1 billion.

This is a pattern we see over and over. Here’s another pattern: Although many companies seem to buy shares just before they start falling, managers tend to do much better at the timing game, selling their own shares right before the slide begins. Just a coincidence, I suppose.

Given a choice between dividends or buybacks, I’ll take the quarterly check. But the bigger question is simply this: Why is management at so many companies bereft of better ideas and more productive uses for corporate cash?

Maybe it’s because so much of the proceeds of buybacks end up in their own pockets.



Originally published here: Why Management Loves Share Buybacks


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  1. DeDude commented on Nov 11

    How about a flat tax of 40% on all stock and stock option compensation. I mean it is only the rich pigs robbing their corporations that get that kind of compensation – and its done that way exclusively for the purpose of saving on taxes (the old canard about “incentives” to work for the good of the company was killed by reality years ago).

    • Iamthe50percent commented on Nov 11

      How about just a ban on stock and stock option compensation? And a ban on buybacks. Sometimes a company needs to raise its share price, for instance to avoid being a penny stock. Reverse splits are appropriate for that purpose. Buy backs distort the market. All executive compensation should be taxed in full as wages, exempting only that compensation exempted by law for ALL employees, such as health insurance premiums and 401K matching.

    • intlacct commented on Nov 11

      How about just a ban on stock and stock option compensation?

      Not disagreeing but how do you propose resolving the agency conflict if what you suggest comes to pass?

    • intlacct commented on Nov 11

      Then everyone will demand pay equal to current pay / (1-tax rate).

      There isn’t an easy fix. The solution is much deeper. Read ‘Enough’ by Bogle. Or his fight for the soul of capitalism.

  2. willid3 commented on Nov 11

    why not require that stock options be for all employees, not just some? same rules for all.

  3. rd commented on Nov 11

    I have seen an increasing number of arguments over the past decade or so trying to equate stock buybacks and dividends as means of “giving money back to shareholders.” I was always suspicious of this given the vast increase of stock option compensation to executives over the past couple of decades.

    About the only way to really game dividends is to issue debt to pay them instead of paying them out of cash flow. That shows up on the books pretty quickly. Some of that has been going on since corporations are sitting in so much cash on ex-US accounts but need to pay dividends in the US. However, like Barry I will still prefer dividend checks over buybacks in most cases. The buybacks seem to be tailored more to feather the executive’s beds than the non-insider shareholders as the executives use them to both cover their options and game the expected stock price before they sell.

    • DeDude commented on Nov 11


      ““giving money back to shareholders.” in reality is “giving shareholder money to management”. Strategically placed share buybacks are a market manipulation tool deployed to get management the most out of their stock options. The fact that they are not prosecuted for this, just show how corrupt the system is.

    • intlacct commented on Nov 11

      The tax benefit was a big piece of it, too.

  4. reedsch commented on Nov 11

    Such subversion! Did I stumble into a communist blog here? We should be thankful that the Job Creators give us anything at all.

    • Whammer commented on Nov 12

      The Harvard Business Review, The Economist, The Financial Times — all a bunch of commies! ;-)

      What a testament to how crazy things are today…..

    • MidlifeNocrisis commented on Nov 11

      Every time I see this topic mentioned, it makes me laugh. All I can envision is some poor, toothless, bearded man standing in the front yard with his gun………… fully surrounded by armored vehicles and with helicopters hovering overhead. Damn. He should have bought more guns!

    • Iamthe50percent commented on Nov 11

      I’ve been a lot healthier since retiring in February. This could be from many causes, but I think one is not being on elevators with people coughing their guts out.

    • intlacct commented on Nov 11

      I look forward to making similar pithy observations IAT5P. Enjoy your retirement!

    • rd commented on Nov 11

      I have been baffled why companies are not providing free flu and pneumoccus vaccines to their employees. Many insurance plans don’t even cover these. It would be a fast way to slash employee sickness which can be very disruptive to business, both when people are absent, but more so when they are only working at half-speed.

    • DeDude commented on Nov 11

      If this is just a normal and acceptable part of free market capitalism why do we put people in jail for armed robbery? I mean forcing people to fork over their money under threat of their lives, is either acceptable or not.

      We used to understand that the critical pillar of capitalism was free competition – not freedom to create actual or functional monopolies.

    • rd commented on Nov 11

      The reason drug costs are high in the US is because the other countries negotiate lower prices for the drugs. That means the companies have to hit up Americans with high profits to get appropriately obscene profits.

    • willid3 commented on Nov 11

      that and we dont allow the biggest buyer (Medicare) to negotiate

    • farmera1 commented on Nov 12

      Yep, often medications are made in this country, exported to Canada and then sold much cheaper in Canada than the US. Why because we let drug companies extort money out of the people that can least afford it. What a country.

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