Stock BuyBacks Effectiveness

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DTalos
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Stock BuyBacks Effectiveness

Post by DTalos »

If a company announces they are going to be doing stock buybacks over a certain period of time, how effective generally is it in increasing the price of the stock? Why would a company choose this approach vs increasing dividend or other methods to make a stock more attractive for investors?
alex_686
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Re: Stock BuyBacks Effectiveness

Post by alex_686 »

Very effective. In theory the value of a stock is based on the Free Cashflow to Equity. It does not matter if that cash is in dividends or buybacks. This has been more or less shown empirically.

While from first order effects they are the same, there are 2nd order impacts.

Buybacks are more tax efficient.

Investors prefer steady dividends, perhaps irrationally. They constitutionally overvalue of the certainty. Companies are afraid of cutting dividends, taking on debt and forgoing long term profitability projects to keep the cash pumping.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
Scooter57
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Re: Stock BuyBacks Effectiveness

Post by Scooter57 »

Buybacks only work if the company is also growing its sales and profits. Companies that rely on buybacks to raise their stock price when their business is stagnant are throwing away their money.

Check out the history of IBM's many billions of dollars of buybacks and the sorry results for shareholders.
Ocean77
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Re: Stock BuyBacks Effectiveness

Post by Ocean77 »

Warren Buffet has a good way to think about it, which he has explained several times in his meetings: Stock buybacks make sense only if the shares currently trade at less than what he calls the intrinsic value of the business. In that regard, it is not all that different than any other investment decision. If you overpay for the asset, you are going to get a lower return on the investment. Even if you are buying your own stock.

If the criteria is met and the shares retired can be bought at below or at least par value, then a stock buyback can be more effective than a dividend, due to the tax treatment. If not, then not. There have been plenty of examples of companies buying back shares at inflated prices, to boost the share price. Those gains are then usually short lived.
TJSI
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Re: Stock BuyBacks Effectiveness

Post by TJSI »

Buybacks provide significant buying pressure which is one of the prime reasons for increased valuations.

The major drawback for buybacks is that they provide cover for new issuance which is largely given to corporate executives. New issuance is something like 97% of share buybacks. That is why corporation executives like them. New shares and buying pressure-- hard to resist.
7eight9
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Re: Stock BuyBacks Effectiveness

Post by 7eight9 »

Examining Corporate Priorities: The Impact of Stock Buybacks on Workers, Communities and Investors
Stock buybacks are virtually unregulated, even though Congress has recognized their potential for market manipulation. Importantly, there are currently no meaningful limits to stop executives from using corporate money on stock buybacks to raise share prices for their own short-term gain. Executives are not required to disclose that they have conducted a buyback until the next quarter’s filing; meanwhile, there are no substantive limits to stop them from selling their own personal shares in the same quarter as they are conducting buybacks.

Read more at --- https://corpgov.law.harvard.edu/2019/10 ... investors/
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Bulgogi Head
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Re: Stock BuyBacks Effectiveness

Post by Bulgogi Head »

If one has $100 in a company’s stock that pays 2% dividend, that investor’s total would grow to $102. But if the company did a share buyback instead, what would happen to that investor’s total?
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grabiner
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Re: Stock BuyBacks Effectiveness

Post by grabiner »

Bulgogi Head wrote: Thu Jun 10, 2021 9:09 pm If one has $100 in a company’s stock that pays 2% dividend, that investor’s total would grow to $102. But if the company did a share buyback instead, what would happen to that investor’s total?
The first premise is wrong. When a stock pays a dividend, the share price will decrease by the dividend amount (plus or minus any other movements). If you are willing to sell a stock for $100 today and it will pay a $2 dividend, you must expect that the stock will be worth only $98 tomorrow, since you are selling the right to have one share of stock and $2 in cash. Another reason that the share price should decline is that the ex-dividend corporation is less valuable because it has less cash.

Buybacks do not inherently increase or decrease the share price; the corporation has less cash, but also fewer shares. This is the reason for the discussion in this thread; executives with stock options prefer buybacks over dividends.
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WarAdmiral
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Re: Stock BuyBacks Effectiveness

Post by WarAdmiral »

DTalos wrote: Thu Jun 10, 2021 4:18 pm If a company announces they are going to be doing stock buybacks over a certain period of time, how effective generally is it in increasing the price of the stock? Why would a company choose this approach vs increasing dividend or other methods to make a stock more attractive for investors?
The management gets compensated in stocks - so it is in their interest for the stock price to increase. Also, with stock sale - they control the capital gains taxes. Dividends on the other hand are forced upon you and so is their taxation.

Also as mentioned upthread stock buybacks have to happen below intrinsic value otherwise it's value destroying.
E.g. GE bought $10B worth of it's own stock at the wrong time. It stock price still got decimated. End Result - $10B wasted.

Another Reason for Stock Buyback is to reduce the increased dilution of stocks due to buying another company.
alex_686
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Re: Stock BuyBacks Effectiveness

Post by alex_686 »

Scooter57 wrote: Thu Jun 10, 2021 5:41 pm Buybacks only work if the company is also growing its sales and profits. Companies that rely on buybacks to raise their stock price when their business is stagnant are throwing away their money.

Check out the history of IBM's many billions of dollars of buybacks and the sorry results for shareholders.
I think you are missing the point. Why are you singling out the billions of dollars on buybacks but not the billions of dollars on dividends? If a business is stagnant, should they reinvest profits in that stagnant business or distribute the cash to shareholders?
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
alex_686
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Re: Stock BuyBacks Effectiveness

Post by alex_686 »

grabiner wrote: Thu Jun 10, 2021 9:27 pm
Bulgogi Head wrote: Thu Jun 10, 2021 9:09 pm If one has $100 in a company’s stock that pays 2% dividend, that investor’s total would grow to $102. But if the company did a share buyback instead, what would happen to that investor’s total?
The first premise is wrong. When a stock pays a dividend, the share price will decrease by the dividend amount (plus or minus any other movements). If you are willing to sell a stock for $100 today and it will pay a $2 dividend, you must expect that the stock will be worth only $98 tomorrow, since you are selling the right to have one share of stock and $2 in cash. Another reason that the share price should decline is that the ex-dividend corporation is less valuable because it has less cash.

Buybacks do not inherently increase or decrease the share price; the corporation has less cash, but also fewer shares.
To extend a bit, dividends and buybacks are almost identical from a accounting standpoint.

Suppose a company has a market capitalization of 100m and it distributes 10m in cash to the share holders. It should now have a market cap of 90m. If it doesn't than the CFO has magicked money out of the air.

Does it matter if the distribution is in the form of dividends or buybacks? No. Dividends will keep the number of shares constant but decrease the price. Buybacks keep the price constant but reduces the number of shares. You can play around with the numbers of shares and the price, but you need to wind up with a market cap of 90.
grabiner wrote: Thu Jun 10, 2021 9:27 pmThis is the reason for the discussion in this thread; executives with stock options prefer buybacks over dividends.
This is somewhat false. This was trueish 20 years ago. Then activist investors and boards caught on. Most compensation contracts are now written so you can't game the system that way.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
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Yesterdaysnews
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Re: Stock BuyBacks Effectiveness

Post by Yesterdaysnews »

In 2020, Apple spent something like $7-8B in capex investing in the business and a spent a lot more to buy back stock. Helped the stock price but is it good for the business long term ?

Amazon otoh spent nearly $50B in capex investing in the business.

Imagine a company spending $50 billion dollars in a year building stuff for the business….

I know which company I would bet on for the long term.
Scooter57
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Re: Stock BuyBacks Effectiveness

Post by Scooter57 »

alex_686 wrote: Fri Jun 11, 2021 1:33 pm
Scooter57 wrote: Thu Jun 10, 2021 5:41 pm Buybacks only work if the company is also growing its sales and profits. Companies that rely on buybacks to raise their stock price when their business is stagnant are throwing away their money.

Check out the history of IBM's many billions of dollars of buybacks and the sorry results for shareholders.
I think you are missing the point. Why are you singling out the billions of dollars on buybacks but not the billions of dollars on dividends? If a business is stagnant, should they reinvest profits in that stagnant business or distribute the cash to shareholders?
IBM spent over 140 Billion on stock buybacks between 2000 and the firing of Ginny Rometty. This was far more than what they spent on dividends. They took on a huge debt load to finance those buybacks, too.Then they divested division after division. Those buybacks were of very little use to any stockholder who held the stock as the price did not respond to those buybacks. Only those who sold profited by the artificial, and very temporary boost in price. At least the stockholder who received a dividend had the option to take their share of the company's profits and reinvest them in something more promising.

But the whole idea that it is wise for a stagnant company to use its profits for buybacks is deeply flawed. If a business is stagnant, they should invest their profits into hiring the best and brightest employees, exploring new business opportunities, and moving the company out of stagnancy. Instead, IBM invested in a single, extremely dated publicity stunt (Watson, a cousin of the Master Computer beloved by 1950s SF writers), fired all its brightest long-term employees who took with them the company's culture, ability to innovate, and fine work ethic, and replaced them with mediocre offshored talent They thend relied on those billions of dollars of buybacks to juice the stock price. Foolish.

Imagine if Apple had taken the same path in 1997 when its Mac business was stagnating. But luckily for American stockholders, Apple was smart enough to know it needed an infusion of genius and completely new ideas about where to take the business.

IBM could have taken the same approach, it had the resources. But it had been taken over during the 1980s by guys in suits who had come up from sales and had little understanding of technology and who also had the salesman's attitude of "promise them anything to get the sale and don't worry about what you sell them."

Bottom line: A company that relies on buybacks to boost share price is a company that has run out of ideas and has no interest in finding new ones. Investors should not be applauding this approach as in the long run it is going to damage their returns.
TJSI
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Re: Stock BuyBacks Effectiveness

Post by TJSI »

I need to correct my statement above. New issuance is not 97% of buyback volume; it is more like 40-50%.

What is true is that the reduction in shares does not contribute greatly to EPS growth. According to JPMorgan share reduction for the 20 years 1999-2019 contributed .4% to EPS growth while the total growth rate was 2.5%.

However new shares issued to company employees are often not sold immediately so the buying pressure of buybacks is considerable. Indeed it is often the leading source of equity demand.

How this all plays out is unknown. Since about 2008 buybacks have grown in importance and have been a significant source of increased demand.
Perhaps it results in a secular increase in valuation with some violent corrections.
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Re: Stock BuyBacks Effectiveness

Post by toast0 »

Scooter57 wrote: Fri Jun 11, 2021 5:25 pmOnly those who sold profited by the artificial, and very temporary boost in price. At least the stockholder who received a dividend had the option to take their share of the company's profits and reinvest them in something more promising.
If you're holding stock, you have the option to sell it at any time (while it's trading anyway); it's just a question of defaults and tax treatment. If you get a dividend and reinvest it, you're in nearly the same place as a buyback, except you owe taxes immediately (so you hold less) and your new holding has a new holding period. There's maybe a difference in transparency or timeliness of information, but if you really wanted to make things equal, you could figure out the cash dividend equivalent when a company does a buy back, and sell that much of your stock in the company and invest it as you choose.
phantom0308
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Re: Stock BuyBacks Effectiveness

Post by phantom0308 »

Buybacks are good for tax efficiency. The video below explains a lot more pros and a couple cons of share buybacks.
https://youtu.be/rVTHRvNpsFs
CuriousTacos
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Re: Stock BuyBacks Effectiveness

Post by CuriousTacos »

There are a handful of hypotheses and anecdotes in this thread that are critical of buybacks. Many of them sound reasonable. If they are generally true and/or widespread, then we should expect to see some under-performance of companies that heavily use buybacks.

S&P released a study looking at that. Here's a link to it, and the full pdf.

Here are some excerpts:
Over a long-term investment horizon, buyback portfolios generated positive excess returns over their benchmark indices in the large-, mid-, and small-cap segments of the U.S. market.

Compared with the S&P 500 Dividend Yield portfolio, the S&P 500 Buyback Index had higher returns [11.5% vs 9.9%] and higher volatility [19.2% vs 18.9%, so only slightly] over the periods examined. Surprisingly, however, the S&P 500 Dividend Yield portfolio recorded a greater maximum drawdown than the S&P 500 Buyback Index. The S&P 500 Shareholder Yield portfolio recorded slightly higher return [12.1%] and lower volatility [18.8%] than the S&P 500 Buyback Index over the same period.

[T]he S&P 500 Buyback Index (which is in the U.S. large-cap space) tends to include more stocks from cyclical than defensive sectors...In contrast to the S&P 500 Buyback Index, the S&P 500 Dividend Yield portfolio was overweight in Utilities and Real Estate and underweight in Information Technology and Health Care for most of the period observed. Sector composition of the S&P 500 Shareholder Yield portfolio is a mix of the two, but it is more tilted toward the S&P 500 Buyback Index.

The historical growth and value composition of the S&P 500 Buyback Index shows that the index had a value tilt before 2003, and it has acquired a balance between growth and value since then. This may result from the increase of Information Technology stocks in the S&P 500 Buyback Index since 2003
I do not present this to suggest anyone should tilt towards some "buyback" index (in fact, their "shareholder yield" portfolio looks even better, which probably means Quality and/or Profitability factors are more important anyway). Their buyback portfolio represents different sectors of the market compared to their dividend portfolio (or the S&P 500), so it's hard to compare directly. My point is that whatever criticisms people may have with buybacks do not appear to be common enough to cause an obvious under-performance in companies that use them heavily. I'm sure some companies use them poorly. I'm sure some companies use dividends poorly. I do like their tax advantages over dividends though.

Again, this study isn't perfect. But to the critics of buybacks, I'd be interested if you know of a better study that supports your point of view.
btraven
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Re: Stock BuyBacks Effectiveness

Post by btraven »

All IBM guys wore suits in the 50s, 60s, and 70s, BTW, including engineers. Not sports coats, suits
Scooter57
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Re: Stock BuyBacks Effectiveness

Post by Scooter57 »

btraven wrote: Sat Jun 12, 2021 12:55 am All IBM guys wore suits in the 50s, 60s, and 70s, BTW, including engineers. Not sports coats, suits
It depended on where you were. Big cities, yes. Manufacturing plants in out of the way places like Essex Junction VT, no.
Scooter57
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Re: Stock BuyBacks Effectiveness

Post by Scooter57 »

CuriousTacos wrote: Sat Jun 12, 2021 12:00 am There are a handful of hypotheses and anecdotes in this thread that are critical of buybacks. Many of them sound reasonable. If they are generally true and/or widespread, then we should expect to see some under-performance of companies that heavily use buybacks.

S&P released a study looking at that. Here's a link to it, and the full pdf.

Here are some excerpts:
Over a long-term investment horizon, buyback portfolios generated positive excess returns over their benchmark indices in the large-, mid-, and small-cap segments of the U.S. market.

Compared with the S&P 500 Dividend Yield portfolio, the S&P 500 Buyback Index had higher returns [11.5% vs 9.9%] and higher volatility [19.2% vs 18.9%, so only slightly] over the periods examined. Surprisingly, however, the S&P 500 Dividend Yield portfolio recorded a greater maximum drawdown than the S&P 500 Buyback Index. The S&P 500 Shareholder Yield portfolio recorded slightly higher return [12.1%] and lower volatility [18.8%] than the S&P 500 Buyback Index over the same period.

[T]he S&P 500 Buyback Index (which is in the U.S. large-cap space) tends to include more stocks from cyclical than defensive sectors...In contrast to the S&P 500 Buyback Index, the S&P 500 Dividend Yield portfolio was overweight in Utilities and Real Estate and underweight in Information Technology and Health Care for most of the period observed. Sector composition of the S&P 500 Shareholder Yield portfolio is a mix of the two, but it is more tilted toward the S&P 500 Buyback Index.

The historical growth and value composition of the S&P 500 Buyback Index shows that the index had a value tilt before 2003, and it has acquired a balance between growth and value since then. This may result from the increase of Information Technology stocks in the S&P 500 Buyback Index since 2003
I do not present this to suggest anyone should tilt towards some "buyback" index (in fact, their "shareholder yield" portfolio looks even better, which probably means Quality and/or Profitability factors are more important anyway). Their buyback portfolio represents different sectors of the market compared to their dividend portfolio (or the S&P 500), so it's hard to compare directly. My point is that whatever criticisms people may have with buybacks do not appear to be common enough to cause an obvious under-performance in companies that use them heavily. I'm sure some companies use them poorly. I'm sure some companies use dividends poorly. I do like their tax advantages over dividends though.

Again, this study isn't perfect. But to the critics of buybacks, I'd be interested if you know of a better study that supports your point of view.
This study seems pretty meaningless to me. The impact of the Financial crisis on dividend paying banks and of the issues confronted this decade by he dividend paying huge oil stocks which once dominated the S&P 500 play a huge role in their long-term under-performance that has nothing to do with the fact that these companies were paying dividends. The index has "acquired a balance between growth and value" since 2003 because Apple, Microsoft which alone make up 11% of the S&P 500's value by weight started paying dividends. These companies have become mature companies whose actual earnings growth rate bears no relationship to their prices which are still being valued as if they were still aggressive growth stocks.

This "study" does not seem to distinguish between companies that permanently decreased share count with buybacks and those that did buybacks and then issued more stock (which is common with growth companies that pay execs and skilled employees with stock options.) You would also want to see whether companies that outperformed also raised sales and profits during the same period or whether the outperformance was entirely due to manipulating the share count.

What I would really like to see is a study that looks at what corporationshave done with the huge loans they have taken out during this period of suppressed rates. How much of that borrowed money went into building up the business for the future by hiring talent, investing in R&D, and developing new product lines, and how much was squandered on buybacks to manipulate prices and enrich execs who cashed out their shares. Those loans are still pending and are a huge overhang over the market and the economy as a whole. The execs who enriched themselves selling their options into buybacks will have moved on by the time it is time to refinance those loans, so they don't have to care. But buy and hold shareholders who are saving for retirement may reap the fruits of all that borrowing and reckless spending.
CuriousTacos
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Re: Stock BuyBacks Effectiveness

Post by CuriousTacos »

Scooter57 wrote: Sat Jun 12, 2021 11:29 am This study seems pretty meaningless to me.
I challenge you to find something better. I'm open to it being wrong, but hypotheses that are contradicted by the data are even more meaningless. As I said before, if your hypotheses are correct, it shouldn't be hard to find under-performance among stocks that use buybacks.
Scooter57 wrote: Sat Jun 12, 2021 11:29 am ...long-term under-performance that has nothing to do with the fact that these companies were paying dividends.
But that's exactly my point- whether a company uses dividends or buybacks is not likely to matter (to pre-tax returns). I've never said that a company should do worse because they pay dividends, or that a company should do better because they use buybacks. I've simply argued that there's a burden of proof to suggest that companies that use buybacks have done or will do worse.
Scooter57 wrote: Sat Jun 12, 2021 11:29 am This "study" does not seem to distinguish between companies that permanently decreased share count with buybacks and those that did buybacks and then issued more stock (which is common with growth companies that pay execs and skilled employees with stock options.) You would also want to see whether companies that outperformed also raised sales and profits during the same period or whether the outperformance was entirely due to manipulating the share count.
If enough companies did the things you are concerned about and/or if these companies performed poorly enough, then they would have dragged down the performance of the group, but that was not evident (at least not to a degree worth worrying about).
Scooter57 wrote: Sat Jun 12, 2021 11:29 am What I would really like to see is a study that looks at what corporations have done with the huge loans they have taken out during this period of suppressed rates. How much of that borrowed money went into building up the business for the future by hiring talent, investing in R&D, and developing new product lines, and how much was squandered on buybacks to manipulate prices and enrich execs who cashed out their shares. Those loans are still pending and are a huge overhang over the market and the economy as a whole. The execs who enriched themselves selling their options into buybacks will have moved on by the time it is time to refinance those loans, so they don't have to care. But buy and hold shareholders who are saving for retirement may reap the fruits of all that borrowing and reckless spending.
It sounds like your argument has shifted from claiming that buyback companies (like IBM) have performed poorly in the past, to the hypothesis that buyback companies may have performed just fine, but they are set to collapse. You are free to do what you want, but since this is the bogleheads forum, the assumption here is that we buy the haystack (and to suggest otherwise requires something very convincing).

So, can you clarify what you are trying to say? Is it that people shouldn't invest in companies that use buybacks? Is it that people should screen out the few companies that use them poorly? Is it that people should invest in companies that pay dividends? Is it just a complaint that there are probably some companies out there that use them poorly even though there's nothing actionable since we don't know which in advance?
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