IBM: Stock Buybacks Gone Wrong?

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TJSI
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Re: IBM: Stock Buybacks Gone Wrong?

Post by TJSI » Wed Oct 22, 2014 10:11 pm

inbox788,

You asked if I had any ideas for IBM. At the time I had none. However, in a burst of creativity I now have two:

1) IBM wants to own the cloud. They should look into owning the pipes between the clouds. Buy/build some backbone networks.

2) Google wants to provide cloud services. Use Watson to provide the mother of all search engines and take Google on.

Do you work for IBM and can I get paid for my services?

an_asker
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Re: IBM: Stock Buybacks Gone Wrong?

Post by an_asker » Thu Oct 23, 2014 7:54 am

madbrain wrote:
an_asker wrote:
madbrain wrote:
bru wrote:So I should sell my IBM stock? And take my profit?

A quick search shows IBM beating the S&P over the last 10 years. Even with its recent fall.


"Past performance is no guarantee of future results".

OP:

Just my attempt at answering a rhetorical question here. What percentage of your portfolio is IBM stock? If 100%, yes of course, yesterday! If 5%, mehh!


I don't know exactly, but it has to be small. My portfolio have a 60% stock allocation, half of which is domestic, and this domestic equity allocation roughly follows Total stock market . I am not sure what the weight of IBM is within the Total stock market.

madbrain:

Sorry for the confusion - my response was directed to bru, who I assumed was the OP of this thread. My bad.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by an_asker » Thu Oct 23, 2014 7:56 am

TJSI wrote:[...]1) IBM wants to own the cloud. They should look into owning the pipes between the clouds. Buy/build some backbone networks.[...]

Strike quick before Kinder (he of the Enron/Kinder Morgan fame) gets there.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by FinancialDave » Thu Oct 23, 2014 3:00 pm

The other thing I'm noticing these days with my settled allocation and recent volatility is that the capital losses harvested in 2009 aren't really being depleted; enough ongoing harvesting to pay for rebalancing for the foreseeable future. So this make dividends even more annoying, with the 23.8% penalty, vs no capital gains now and what looks to be a long, long deferral horizon (reducing the effective CG tax to less than 10% probably).


ogd,

If I am reading between the lines here, you are annoyed because of a TLH technique that didn't quite work out as planned, forcing you essentially into a higher tax bracket later? If you aren't retired, having dividends in a taxable account can be a problem, why not use more efficient ETF's?

In my case all my dividend payers are either in an IRA or RIRA, so taxes are either deferred to a time of my choosing or tax-free.

If anyone thinks buybacks are a harbinger of poor future returns, you're welcome to find a fund that avoids them, or create your own. And prepare to be disappointed, because it's never this easy


Personally, I don't think buybacks are a harbinger for anything, much like many claim dividends aren't a predictor of anything either.

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nisiprius
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Re: IBM: Stock Buybacks Gone Wrong?

Post by nisiprius » Thu Oct 23, 2014 4:14 pm

investor1 wrote:...I just don't get the idea that IBM might go to $0...
Why not? Because they're such a big, familiar, comfortable name? Control Data went to $0, Pr1me went to $0, Digital Equipment Corporation went to $0, Wang went to $0. Burroughs and Univac are part of the corporate heritage of Unisys but I'm not sure I'd say they really "survived" either. Of course corporations like to project an aura of stability and invincibility--I think that's part of the reason they often prefer not to use a person's name in the company name.

But the speed with which a company can implode when it starts getting bad at its business is breathtaking. And the blindness when a company becomes inner directed--they don't believe they are getting bad at their business because what counts are the judgements of all the other people within the company, who create a closed bubble subculture in which "good" becomes unmoored from what the customers think.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by bhsince87 » Thu Oct 23, 2014 6:16 pm

Well, if you go back to 2011, this is apparently exactly what Warren Buffet was hoping for. From his annual report:

"This discussion of repurchases offers me the chance to address the irrational reaction of many investors to changes in stock prices. When Berkshire buys stock in a company that is repurchasing shares, we hope for two events: First, we have the normal hope that earnings of the business will increase at a good clip for a long time to come; and second, we also hope that the stock underperforms in the market for a long time as well. A corollary to this second point: “Talking our book” about a stock we own – were that to be effective – would actually be harmful to Berkshire, not helpful as commentators customarily assume.

Let’s use IBM as an example. As all business observers know, CEOs Lou Gerstner and Sam Palmisano did a superb job in moving IBM from near-bankruptcy twenty years ago to its prominence today. Their operational accomplishments were truly extraordinary. But their financial management was equally brilliant, particularly in recent years as the company’s financial flexibility improved. Indeed, I can think of no major company that has had better financial management, a skill that has materially increased the gains enjoyed by IBM shareholders. The company has used debt wisely, made value-adding acquisitions almost exclusively for cash and aggressively repurchased its own stock.

Today, IBM has 1.16 billion shares outstanding, of which we own about 63.9 million or 5.5%. Naturally, what happens to the company’s earnings over the next five years is of enormous importance to us. Beyond that, the company will likely spend $50 billion or so in those years to repurchase shares. Our quiz for the day: What should a long-term shareholder, such as Berkshire, cheer for during that period?

I won’t keep you in suspense. We should wish for IBM’s stock price to languish throughout the five years. Let’s do the math. If IBM’s stock price averages, say, $200 during the period, the company will acquire 250 million shares for its $50 billion. There would consequently be 910 million shares outstanding, and we would own about 7% of the company. If the stock conversely sells for an average of $300 during the five-year period, IBM will acquire only 167 million shares. That would leave about 990 million shares outstanding after five years, of which we would own 6.5%.
If IBM were to earn, say, $20 billion in the fifth year, our share of those earnings would be a full $100 million greater under the “disappointing” scenario of a lower stock price than they would have been at the higher price. At some later point our shares would be worth perhaps $11⁄2 billion more than if the “high-price” repurchase scenario had taken place.

The logic is simple: If you are going to be a net buyer of stocks in the future, either directly with your own money or indirectly (through your ownership of a company that is repurchasing shares), you are hurt when stocks rise. You benefit when stocks swoon. Emotions, however, too often complicate the matter: Most people, including those who will be net buyers in the future, take comfort in seeing stock prices advance. These shareholders resemble a commuter who rejoices after the price of gas increases, simply because his tank contains a day’s supply.

Charlie and I don’t expect to win many of you over to our way of thinking – we’ve observed enough human behavior to know the futility of that – but we do want you to be aware of our personal calculus. And here a confession is in order: In my early days I, too, rejoiced when the market rose. Then I read Chapter Eight of Ben Graham’s The Intelligent Investor, the chapter dealing with how investors should view fluctuations in stock prices. Immediately the scales fell from my eyes, and low prices became my friend. Picking up that book was one of the luckiest moments in my life.
In the end, the success of our IBM investment will be determined primarily by its future earnings. But an important secondary factor will be how many shares the company purchases with the substantial sums it is likely to devote to this activity. And if repurchases ever reduce the IBM shares outstanding to 63.9 million, I will abandon my famed frugality and give Berkshire employees a paid holiday.

Page 6: http://www.berkshirehathaway.com/2011ar/2011ar.pdf


I understand it's all about cash flows. But still, they could also end up owning 7.5% instead of 5.5% of a turd.
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Re: IBM: Stock Buybacks Gone Wrong?

Post by ogd » Thu Oct 23, 2014 6:51 pm

FinancialDave wrote:
The other thing I'm noticing these days with my settled allocation and recent volatility is that the capital losses harvested in 2009 aren't really being depleted; enough ongoing harvesting to pay for rebalancing for the foreseeable future. So this make dividends even more annoying, with the 23.8% penalty, vs no capital gains now and what looks to be a long, long deferral horizon (reducing the effective CG tax to less than 10% probably).


ogd,

If I am reading between the lines here, you are annoyed because of a TLH technique that didn't quite work out as planned, forcing you essentially into a higher tax bracket later? If you aren't retired, having dividends in a taxable account can be a problem, why not use more efficient ETF's?

Au contraire, it's worked better than I expected; I'm only realizing recently how well it's worked and that I won't be paying capital gains taxes (to the federales, at least) for a long long time. The side effect is to make investments that return something other than capital gains look bad in comparison.

FinancialDave wrote:In my case all my dividend payers are either in an IRA or RIRA, so taxes are either deferred to a time of my choosing or tax-free.

Yeah, I'd have no issue with dividends if all of this was in tax-advantaged. In fact, I'd even be tempted to try the rumored dividend arbitrage opportunity, pocketing the market's slight discounting of dividend taxes. One would need some good research and a very good brokerage arrangement, e.g. Flagship or Voyager Select.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by nisiprius » Thu Oct 23, 2014 7:03 pm

bhsince87 wrote:Let’s use IBM as an example. As all business observers know, CEOs Lou Gerstner and Sam Palmisano did a superb job in moving IBM from near-bankruptcy twenty years ago to its prominence today. Their operational accomplishments were truly extraordinary. But their financial management was equally brilliant... financial flexibility ... financial management ... used debt wisely... shares... earnings... We should wish for IBM’s stock price to languish... stock price... earnings... repurchase... buyer of stocks... stocks...
Nowhere in all of Warren Buffett's text do I see any mention of whether he thinks IBM is continuing to make good products or provide good services. Maybe he takes it for granted.
Last edited by nisiprius on Thu Oct 23, 2014 7:07 pm, edited 1 time in total.
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Re: IBM: Stock Buybacks Gone Wrong?

Post by dnaumov » Thu Oct 23, 2014 7:06 pm

TJSI wrote:IBM is having a difficult time growing revenue and earnings. Buybacks can't hold up the stock price. And it seems likely that the money spent on buybacks would have been better spent on other investments than itself.

They may well end up a great business case of when not to do buybacks.

This is a common misconception. Growth of revenues and profit is not a requirement for having good returns for the long-term shareholder. What IS required is adequare return on (and cost of) capital employed (assuming revenue-profit keeps up with inflation, ie. zero real growth).
Last edited by dnaumov on Thu Oct 23, 2014 7:09 pm, edited 1 time in total.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by Higman » Thu Oct 23, 2014 7:07 pm

Here is another angle on why a company would buy back stocks. I remember around 1984 when then CEO John Opel had $6B that he didn’t know what to do with. He said the best investment he could make was investing in IBM. So he used it to buy back stock. This raised the EPS. Guess what? He receives a multimillion dollar performance bonus since an EPS target was in his performance plan.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by madbrain » Thu Oct 23, 2014 7:16 pm

nisiprius wrote:Nowhere in all of Warren Buffett's text do I see any mention of whether he thinks IBM is continuing to make good products or provide good services. Maybe he takes it for granted.


Or maybe he just has no clue about tech and doesn't want to look foolish by trying to talk about the tech products/services.
Or maybe he doesn't care ?

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Re: IBM: Stock Buybacks Gone Wrong?

Post by SpaceCommander » Thu Oct 23, 2014 7:20 pm

Since we've been talking Buffet: here's how he would assess the propriety of stock buybacks.

"We test the wisdom of retaining earnings by assessing whether retention, over time, delivers shareholders at least $1 of market value for each $1 retained... The five year test should be: (1) during the period did our book-value gain exceed the performance of the S&P; and (2) did our stock consistently sell at a premium to book, meaning that every $1 of retained earnings was always worth more than $1? If these tests are met, retaining earnings has made sense." (Essays of Warren Buffet, 33)

Of course this refers to buybacks as well as reinvestment in the business. Makes sense to me. :idea:
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Re: IBM: Stock Buybacks Gone Wrong?

Post by Boglegrappler » Thu Oct 23, 2014 8:31 pm

Nowhere in all of Warren Buffett's text do I see any mention of whether he thinks IBM is continuing to make good products or provide good services. Maybe he takes it for granted.


Its an excellent point, and I think you have the answer, in a sense. He won't invest in something unless he thinks there is a stability or "persistence" in their revenues and earnings, reflecting a "franchise" or what he sometimes calls "intrinsic value" (that term always gave me a problem). So he's already made that determination as a given before investing. Could be wrong, but he doesn't believe so.

One thing that todays market highlights is that there are opportunities in low growth companies. I've done some P= E(1+g)/(k-g) modeling using negative growth rates and you can justify buying a negative 2-3% earnings rate if you get it at the right P?E and if the return you're looking for is low enough nominally. I think we're in that type of environment now. If you think the 10 year won't get above 2.5 or so, and you'd take double that yield on stocks, you'd pay 20 times earnings for a no-growth perpetuity. So if you can find stocks at 10-11X earnings, you have a little cushion to absorb some negative growth, or to adjust your rate of return requirement and still come out ok. IBM might fit that mold.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by Ged » Thu Oct 23, 2014 11:26 pm

nisiprius wrote:Nowhere in all of Warren Buffett's text do I see any mention of whether he thinks IBM is continuing to make good products or provide good services. Maybe he takes it for granted.


IBM has an immense panalopy of products and services. Some are obviously very good, others not so much.

The thing that to me is a concern is the vast numbers of employees and products they offer, as well as the relatively low amount of revenue per employee. 400,000 employees? The number is completely mind-boggling.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by Valuethinker » Fri Oct 24, 2014 5:24 am

madbrain wrote:
nisiprius wrote:Nowhere in all of Warren Buffett's text do I see any mention of whether he thinks IBM is continuing to make good products or provide good services. Maybe he takes it for granted.


Or maybe he just has no clue about tech and doesn't want to look foolish by trying to talk about the tech products/services.
Or maybe he doesn't care ?


As he has said, given the size of his quoted positions (to have a meaningful impact on his business), his investments quickly become public and disclosable, thus closing any price anomaly.

Therefore he says very little about his quoted positions. As little as possible.

And in the best traditions of the Delphi Oracle, his words on these subjects are also open to broad interpretation.

I think it's fair to say that other than the broad principles by which he has always worked which are:

- buy businesses with strong franchises at a discount to their fundamental value
- conduct rigorous free cash flow analysis of those businesses to ascertain the above
- hold for the long term, and be patient as to when to invest
- cut your mistakes ruthlessly
- treat BH capital as if it is his own, invest in management teams with a similarly proprietarial attitude
- invest in businesses with a 'spread' of return on capital higher than his funding cost (very low given BH's insurance operations and their credit rating)

we don't really know what Buffett thinks about a given company, or why he does things.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by Valuethinker » Fri Oct 24, 2014 5:33 am

nisiprius wrote:
investor1 wrote:...I just don't get the idea that IBM might go to $0...
Why not? Because they're such a big, familiar, comfortable name? Control Data went to $0, Pr1me went to $0, Digital Equipment Corporation went to $0,


DEC was bought by Compaq and then acquired by HP, so not quite zero-- just a fairly disappointing price. Tandem was in there somewhere, too.

I remember someone telling me in the early 80s they were on a plane Toronto to Ottawa with DEC's sales team. In Ottawa they basically had one client (some piece of the Federal government) and yet the sales team was 5 people. He realized then that this was a fat and happy company. It had tried deliberately to not be an IBM in the way it dealt with customers and staff, and that made it hard to deal with the overstaffing and the corporate culture when things got tougher.

IBM was famous for its employee benefits and a 'job for life' culture, coupled with a rigid adherence to rules and norms (blue suit etc.). All of that has, I gather, been disposed of.

A friend worked at Sun in late 1990s and early 2000s. He said Sun basically always viewed its saviour as being the next, faster, box-- whenever the earnings wobbled Jeff Macnelly would get up internally and talk about exciting hardware projects. For a long time the dot com boom (inexperienced startups, lushly funded, buying Sun servers at list prices) hid the problem. They couldn't 'get' that the hardware server business was being commoditized underneath them, and move their business model to a software-services one (as IBM has done, to an extent-- although apparently they still make an unholy amount of money on the mainframe side).

Wang went to $0. Burroughs and Univac are part of the corporate heritage of Unisys but I'm not sure I'd say they really "survived" either. Of course corporations like to project an aura of stability and invincibility--I think that's part of the reason they often prefer not to use a person's name in the company name.

But the speed with which a company can implode when it starts getting bad at its business is breathtaking. And the blindness when a company becomes inner directed--they don't believe they are getting bad at their business because what counts are the judgements of all the other people within the company, who create a closed bubble subculture in which "good" becomes unmoored from what the customers think.


I know Clay Christensen and Disruptive Innovation is under attack, but I do think there is merit in his insight that companies get very good at doing what their *existing* customers want (that's why they are market leaders) and therefore miss/ dismiss significant changes which lead to new markets, new competitors and eventual wholesale customer defection. This was more or less the case with DEC: minicomputers were replaced by clustered Micros, and they weren't there.

Generally technology industry moves with blinding rapidity, and the leaders of 20 years ago are almost inevitably not the leaders now. IBM has survived by most of the other great names of the early 80s, say, have not. Those that have (IBM, HP, Oracle, Apple) have radically transformed themselves. Google was barely past being a startup when the dot com bubble hit the fan in 2000-01.

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Re: IBM: Stock Buybacks Gone Wrong?

Post by TJSI » Mon Dec 08, 2014 1:30 am

Comments from IBM CFO on why they are doing buybacks: http://www.cnbc.com/id/102241195

I guess he wouldn't say they were making a mistake.

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