Focused on their shareholder value, many companies are using cash for share buybacks instead of research and development.
This step:
- Reassures investors that stock is attractive at that level
- Is viewed favorably, similar to dividend increases
- Reduces company’s outstanding share total, giving a lift to earnings per share
This artificially bolsters the share prices to enrich investors, as well as executives paid with stock options!
During the 1960’s and 70’s, 40 cents of net earning was reinvested in facilities, research or new hires. Since the 1980’s, only 10 cents is going to investment, while the rest is going to shareholders. Money that once went to expansion, new ventures, and employee compensation is now going to shareholders. From 2003 to 2012, 91% of Fortune 500 companies’ net earnings went to shareholders (Source: Washington Post).
In 1992, 98 US companies had the highest credit rating (AAA) from Standard & Poor’s. By 2016, this had fallen to only two (Johnson & Johnson, Microsoft). Why? More companies take on high levels of debt to fund shareholder buybacks. For example, Apple has $200 Billion in cash, yet borrowed billions of dollars to buy back its own shares in order to boost its share price. This is cheaper than repatriating profits and paying US taxes (Source: Financial Times).
In March 2006, Microsoft announced major new technology investments, and their stock fell for 2 months. In July, it started buying $20 billion of stock, and the share price rose 7%. What would you do if you were CEO?
On the flip side, if a company did issue new shares to finance activity (i.e. acquisitions, expansion), it would then dilute the value for their current shareholders.
Should your company buy back or issue stock?
