Buybacks Are Back, and Many Repurchase Programs Occur for the Wrong Reasons
A volatile stock market and signs of a possible double-dip recession have breathed new life into one of favorite ploys in the corporate finance playbook–announcing a substantial share repurchase. Citing data from an analyst at Birinyi Associates, Bloomberg reported in early August that 2011 is on track to be the third largest year ever in the dollar amount of share buyback announcements, with an estimated $554 billion this year. The two biggest years so far were 2006, with $655 billion, and 2007, with $863 billion.
Shrewd investors will take this news with a large grain of salt. Three days before the Birinyi report, a Wall Street Journal headline asked, “Where are the Buybacks?” The article quoted a Trim Tabs Investment Research report that share repurchase announcements in the latest quarterly earnings reporting period were below the pace of the previous two periods. Conflicting depictions of the buyback trend are just the beginning of the confusion for investors, many of whom have been led to believe falsely that share repurchase announcements are unalloyed good news for a company’s equity owners. Do long-term investors like beleaguered media giant News Corp. (NWS) after its share repurchases announcements in July and August? Probably not.
Are we warming up to money-losing AOL (AOL), which accompanied some bad news in early August with plans to buy back $250 million worth of its shares? Not really.
Sometimes, useful news is imbedded in share buyback announcements. When Wal-Mart Stores (WMT) in June disclosed its second annual round of $15 billion in share repurchases, analysts quickly calculated that the move looked like an attempt to return majority ownership of the company to the Sam Walton family, squelching independent voices from non-family stakeholders. One could go on. YCharts already has stated its skepticism about share buyback programs.
The best buyback programs, like the best investments, are part of a long-term strategy, not quick fixes to counter bad news. Target (TGT), rated “attractive” in YCharts, has had a share repurchase program under way since 2007, as part of its financial toolkit for allocating cash. The program was suspended in 2009 while the company deployed its cash to pay off debt.
There’s nothing wrong with modest share buybacks, like quarterly dividends, that don’t indicate executive panic. Finance professors frequently slam the idea that share buybacks signal corporate managements’ insider knowledge that better times lie ahead. Two fairly recent examples of this research are linked here:
Two points stand out in the studies:
—Professor Erik Lie of the University of Iowa found that more 60 percent of the stocks he tracked after buyback announcements either repurchased no shares in the quarter of the announcement, bought a trivial amount or didn’t disclose actual purchase activity. Share buyback announcements don’t necessarily mean actual repurchases or reductions in shares outstanding.
—Professors Gustavo Grullon of Rice University and Roni Michaely of Cornell University found no evidence that companies that repurchase shares are more likely to post improve results in the future, as their managements expect their shareholders to believe. On the contrary, one positive effect of share buybacks, they suggest, is to get the company’s cash out of the hands of incompetent managers.
Abrupt share buyback announcements mean one of two things: companies are sitting on a mountain of cash earning no interest with no profitable plans, or are going into hock to boost share prices (an executive stock options) artificially. You might be better off with the cash in your hands, but only because it’s no longer in the company whose shares you bought in the hope of a reasonable, steady return.
by Bill Barnhart