Are Company Share Buybacks Positive for Investors?
Warren Buffett, one of the wealthiest investors in the world, once said that Berkshire Hathaway (NYSE:BRKA) would only perform stock repurchases if they believe it represented an attractive use of the company’s money. He explained in a 1999 annual report, “At best, repurchases are likely to have only a very minor effect on the future rate of gain in our stock’s intrinsic value.” A new report reiterates Buffett’s point. Although many companies participate in buyback programs, they offer little or no increase in value for remaining shareholders.
Credit Suisse (NYSE:CS), a global financial services company with offices in 50 countries, recently concluded a multi-year study on S&P 500 companies conducting share repurchase programs. From 2004 through 2011, firms in the index spent $2.7 trillion on their own stock. However, only 180 of those companies were able to generate a return above a 7 percent cost of equity, with just 98 companies beating simple dollar cost averaging. Despite the notion that buybacks usually add shareholder value by reducing shares outstanding and boosting earnings per share, analyst David Zion writes in the report, “It looks like most of the buybacks by the S&P 500 over the past eight years have not yet added much value for remaining shareholders.” He later explains that “just because something is accretive to earnings doesn’t necessarily mean that it’s creating value for shareholders.”
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When deciding on whether or not a company’s share buyback program is money well spent, Credit Suisse suggests evaluating it as if you are purchasing shares in your own portfolio. “Treat the share buybacks as if the company were building positions in a portfolio, measure the returns on that portfolio over time (including dividends) and then compare the results to a relevant benchmark (ideally the cost of equity) to find out if value is being added or destroyed,” the report explains.
Using data pulled together since 2004, Credit Suisse compiled the following list of the worst estimated annualized returns with more than $1 billion spent on buybacks from 2004-2011.
American International Group (NYSE:AIG) -51.7 percent
Citigroup (NYSE:C) -33.9 percent
Sprint Nextel (NYSE:S) -31.1 percent
Genworth Financial (NYSE:GNW) -29 percent
Hartford Financial Services (NYSE:HIG) -28.3 percent
Alcoa (NYSE:AA) -24.8 percent
Regions Financial (NYSE:RF) -23.8 percent
Bank of America (NYSE:BAC) -22.5 percent
Donnelley, R.R. & Sons (NASDAQ:RRD) -21.7 percent
Electronic Arts (NASDAQ:EA) -21.6 percent
Interestingly, the study found that several companies had the same problem as many individual investors, bad timing. Zion explains, “Instead of buy low sell high, it appears share buybacks ramp up when things are going well and stock prices are higher (when companies have ‘excess cash’ and there’s more dilution from stock based compensation), and are dialed down when times are tough and stock prices are lower.” In other words, the majority of companies also ignore Buffett’s advice of “Be fearful when others are greedy, and be greedy when others are fearful.”
On the positive, companies such as Dollar Tree (NASDAQ:DLTR), CF Industries Holdings (NYSE:CF) Visa (NYSE:V) and Ross Stores (NASDAQ:ROST) have all recognized annualized returns north of 30 percent with their buybacks. Furthermore, Credit Suisse notes that “Mr. Market is not always right” and “what looks like value-destroying share buybacks could really be value-adding if intrinsic value is eventually realized.”
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