Companies turning again to stock buybacks to reward shareholders
BRENDAN MCDERMID/REUTERS – Traders work on the floor of the New York Stock Exchange in this Nov. 21 photo.The 30 companies listed on the Dow Jones industrial average have authorized $211 billion so far in 2013, according to data from Birinyi Associates.
By Jia Lynn Yang, Published: December 15
Battered by months of disappointing sales, networking giant Cisco needed a way to give its shareholders a pick-me-up. So the San Jose-based firm did what has become routine for many big U.S. companies in a slow-growing economy: It announced last month that it was buying back shares of its stock.
The amount authorized to be spent was $15 billion, surpassing the $10 billion in net income the company earned last year. It’s also 21 / 2 times what Cisco spent on research and development, and it comes as the company lays off 5 percent of its workforce, or 4,000 employees.
This is what U.S. multinationals do now with their cash. Rather than tout big new investments, raise worker wages or hire more employees, companies are more likely to set aside funds to reward shareholders — a trend that took a dip during the recession but has roared back during the recovery.
The 30 companies listed on the Dow Jones industrial average have authorized $211 billion in buybacks in 2013, according to data from Birinyi Associates, helping to lift the benchmark stock index to heights not seen since the tech boom of the late 1990s. By comparison, the amount is nearly three times what the group spent on research and development last year, according to data from S&P Capital IQ.
Why spend so much on stock repurchasing? When the number of shares outstanding falls, the value of each one goes up, instantly rewarding shareholders.
The repurchase also lifts earnings per share, an important number closely watched by investors — and by corporate boards in determining executive pay. Of the 30 companies making up the Dow index, all but four list earnings per share in their public documents as a metric used to determine executive pay.
Ultimately, analysts say, when companies spend money on buybacks rather than investment, they’re signaling low hopes for economic growth.
“Corporate profits are very high, but corporations are not expecting a huge burst of growth,” said Ben Inker, co-head of asset allocation at GMO, an investment-management firm. “Given that they’re not expecting a lot of growth, there isn’t a lot of reason to invest. So they’re finding ways of getting money back to shareholders.”
The types of companies that authorize buybacks transcend industry. Among the Dow 30, more than half have approved stock buybacks this year, essentially earmarking money for repurchases that can take place over years. Home Depot authorized $17 billion in February; Goldman Sachs signed off on $10.8 billion in April; Pfizer greenlighted $10 billion in June; and Wal-Mart authorized $15 billion in June.
The announcements often come on top of ongoing share repurchases that outpace spending on research and development. AT&T, for instance, has spent $11.1 billion this year buying back shares, compared with the $1.3 billion it spent last year on research and development. Pfizer has used $11.5 billion to repurchase shares; the pharmaceutical company logged $7.9 billion in research last year.
Cisco spokeswoman Kristin Carvell said the company has not announced a time frame for completing the $15 billion buyback, so evaluating the size of the authorization next to annual net income is “not necessarily a direct comparison.”
She rejected the idea that the company is authorizing buybacks because it doesn’t see investment opportunities. Carvell said Cisco is able to do both — return cash to shareholders and make investments. Carvell also said that the recent layoffs were done not to cut operational costs but rather to allow the company to invest in “key growth areas.”
Cisco announced its buyback authorization the same day it released disappointing quarterly earnings. The bad news outweighed the repurchase declaration and sent the stock down 11 percent.
In the past three decades, the stock buyback has become a standard move in the playbook of corporate America, echoing a growing fixation on maximizing shareholder value.
The rise of share buybacks reflects a belief that a company’s primary purpose is to return value to shareholders, even though that principle is not codified by U.S. Statute.
Helping to fuel the stock market’s meteoric rise is the Federal Reserve’s stimulus program designed to lower borrowing costs. Companies are taking advantage, often by borrowing money at low rates to repurchase shares, although it’s unclear how much of the debt is being used to pay for buybacks.
“It somehow feels scarier if they borrowed the money to buy back stock than if they had some investment opportunities,” Inker said. “That somehow seems more sustainable than just levering up to reduce the share count.”
Some analysts say companies are better off repurchasing shares than pouring money into investments promising dubious payoffs, especially in a slow-growing economy. But others argue that the rise of the share buyback is encouraging executives to make decisions that aren’t always good for their firms or for the economy, rewarding companies for finding quick ways to please shareholders rather than innovating and planning for long-term growth.
“It’s not just the money,” William Lazonick, a professor of economics and director of the Center for Industrial Competitiveness at the University of Massachusetts at Lowell, said of buybacks. “It changes the strategy of the company. It undermines innovation.”
Share buybacks weren’t always a fixture in corporate America. In 1985, only 52 stock repurchases were authorized, according to Birinyi Associates. This year there have been 885.
Buybacks at all companies this year are on track to reach $754 billion, shy of the $863 billion record set in 2007 but far above the 2009 low during the recession.
Lazonick traces the rise of buybacks to a rule passed by the Securities and Exchange Commission in 1982 that gave “safe harbor” to corporations repurchasing large parcels of stock — a way to protect them from charges of price manipulation.
“It’s systemic,” Lazonick said. “One company does it, everybody feels compelled to do it. Otherwise their stock price will lag behind.”
Another factor, experts say, is that executive pay is increasingly tied to movements in the stock market as corporate boards try to tie pay to performance. And often, the compensation itself comes in the form of stock.
The use of restricted stock grants to pay executives hit an all-time high in 2012, according to research firm Equilar, with 93 percent of Standard & Poor’s Composite 1500 companies granting restricted stock to employees, compared with 80 percent in 2007.
But some corporate governance experts question why pay is so closely tied to share prices and metrics such as earnings per share, which executives can so easily alter in the short term.
Roger Martin, former dean of the Rotman School of Management at the University of Toronto, likened stock-based pay to professional football players being allowed to bet on the games they play in: They have too much control over the outcome.
“In football, they have this absolute rule, which is if you’re ever caught betting on football if you’re a player or manager, you get punted out for life,” Martin said. “In the world of business, it’s a different rule.”
As the stock market has surged back to pre-recession levels, executive pay has shot back up as well. Equilar found that chief executives’ compensation is “growing at levels last seen prior to the recession,” according to its 2013 report on CEO pay strategies. Meanwhile, average worker pay has remained stagnant since before the crisis.
And pressure is growing, often from activist investors, for firms to return even more value to shareholders. Carl Icahn, for instance, has been loudly pressing Apple to do a buyback of as much as $150 billion, although he recently scaled back his request.
Companies can take years to complete the process. This year, the companies in the Dow 30 have executed $132 billion worth of buybacks. Lazonick has calculated that over the past decade, companies in the S&P 500-stock index have spent just over half of their net income executing buybacks.
Still, lawmakers have rarely taken notice. In the summer of 2008, when gasoline prices spiked, a handful of Democrats on Capitol Hill, including Sen. Charles E. Schumer (D-N.Y.) and Sen. Robert Menendez (D-N.J.), blasted oil companies for announcing buybacks while customers paid more at the pump.
No substantive policy action on buybacks followed. Yet the way firms deploy their capital — along with what executives are paid — has broad ramifications for the economy.
“Executives get paid for what other companies are doing or what the sentiments of investors are, something that has nothing to do with their business plans,” said Keith Johnson, former legal counsel to Wisconsin’s public pension fund. “It’s just a really bad way to run an economy. It perverts the allocation of capital.”
For firms, repurchasing shares has become something to boast about to shareholders — proof that executives are looking out for them.
“We have a financial priority to return value to our shareholders through dividends and share repurchases,” Jeff Davis, treasurer and executive vice president of Wal-Mart, said on an earnings call with analysts last month. Davis reported that the company spent $1.7 billion on repurchasing shares in the most recent quarter. Of the $15 billion approved by the firm to be spent this way, Davis added, there was still room for billions more.
12/16/2013 4:35 PM EST
This is exactly what happened in the 1990’s that created the .com bubble-bust and how Clinton looked so good when things were sliding backwards in the economy. Basically the Frank-Pelosi-Dodd act does nothing to correct foolishness in the markets.Here is what’s headed your way; the preferred stock holders have been buying up all the stock they can leverage at stock option prices which can be as low as 50% of the retail stock price. Thus giving them massive asset ownership in the company. This also raises the stock prices at the retail market values. You as a stock holder believe things are going great because your stock has risen 25% over the past year. You start to invest heavier in your portfolio thus raising the retail stock prices ever higher. At a pre-determined date, the preferred stock holders then sell their 1 million block shares by the dozen; the stock market drops like a rock and the preferred shareholders absorb all of your hard earned savings. Leaving you high, dry and broke then blaming a poor economy for the failure of Wall Street when it was a planed play on market shares from the beginning.The best bet is to pull your money soon because failure is headed your way! Welcome to the Vegas style stock market!
12/16/2013 3:42 PM EST
Cisco posted $11B in profits then laid off 4000 workers, then buys back $15B of their own stock! There needs to be a tax designed to discourage this sort of behavior. A company in that position ought to be raising wages for everyone and investing in new technology, not handing out a special treat to their millionaire shareholders and executives. This is class warfare at its most blatant and the rich are winning.
12/16/2013 4:21 PM EST
Companies must do what is in the best interest of the shareholders first.
12/16/2013 1:30 PM EST
Company cash does not belong to employees or consumers because they do not bear the risk of financial loss of the company. As shareholders do bear that risk, they are entitled to company profits (which are the reward for avoiding losses).In a time in which higher share prices are the result of ultra-easy monetary policy and not organic economic growth, there are only two ways to return company cash to shareholders: (1) stock buybacks; or (2) dividend hikes. One way or the other, company share prices will rise; however, stock buybacks are preferred over dividend hikes for at least two reasons: (1) if the company stock is undervalued, then the company is buying back its shares at a bargain price; and (2) shareholders will pay the capital gains tax rate on capital gains from share buybacks and not the ordinary income tax rate on dividends.In short, share buybacks are a win-win for a company and its owners. And if you do not bear the risk of financial loss of the company, then you are not entitled to any of its profits, let alone a say to whom those profits should go.(I know someone will bring up “too big to fail” and other government guarantees to crony capitalists. Considering taxpayers are taking a bath on the GM bailout, “too big to fail” cannot end too soon.)
12/16/2013 1:26 PM EST
Anyone who wants the full understanding of this should read Hedrick Smith’s “Who Stole the American Dream”. Shows in full the impact of the shift corporate America took in the 1960′s away from a model whereby wealth was directed toward the community and the virtuous circle it created to that in the 70′s and 80′s where the shareholder was considered supreme and where returns to both shareholders and management could be maximized the fastest and easiest way by lowering the cost of labor in an era of globalization. It was deliberate. Policies guaranteeing all this were put in place by an explosion of lobbying that went on at the state and local levels. And so the money is not put back to use for domestic “growth” but instead squirreled away offshore or used to buy foreign goods. Anyway, it reads like a road map to where we are now
12/16/2013 12:07 PM EST
A scion of the Walton royal family of billionaires (kneel when you speak their name) must have written this. Lower prices, lower wages = disaster and decline. Higher wages and higher prices = progress
12/16/2013 11:37 AM EST
End of tax year ledger cleaning, that’s all it appears to be. A simple, but effective and common, tax avoidance move for risk mitigation and compliance assurance purposes.
Dec 23, 2013
The Buyback, Dividend Bonanza Picks Up Steam
Rich prosper amid large income gap
By Jack Torry and Jessica Wehrman Monday December 16, 2013 7:29 AM
WASHINGTON — Former Democratic presidential candidate John Edwards liked to speak of “two Americas.” Freshly elected New York City Mayor Bill De Blasio this year called it “a tale of two cities.”
Their message was clear and simple: One part of the country is comfortably rich, the other is struggling.
For the past three decades, wealthier Americans have seen their annual income grow at a far-faster rate than all other Americans. Studies show that even after the wealthy pay income taxes and the low-income receive federal help in the form of food stamps, Medicaid and education grants, a huge financial chasm remains between them.
In a 2011 report, the non-partisan Congressional Budget Office concluded that the average after-tax household income for the wealthiest 1 percent grew 275 percent between 1979 and 2007 compared to 65 percent for the 20 percent of households in the next-highest income group. By contrast, the 60 percent of households in the middle- and lower-income groups saw their average real after-tax income increase by 40 percent.
Although real household income for all Americans increased during that time, economists say that the huge financial gap exacerbated the 2008 recession for middle-income people who had much of their wealth tied up in their homes. As home prices collapsed, those Americans compensated by curbing borrowing and spending less on consumer goods.
In a speech in April in New York City, Sarah Bloom Raskin, a member of the Federal Reserve Board who has been nominated as deputy secretary of the Treasury Department, concluded that “because of how hard these lower-and middle-income households were hit, the (2008) recession was worse and the recovery” less robust.
“Even if you make certain corrections, the gap is growing,” said Tom Garrett, an economics professor at the University of Mississippi and author of income-inequality studies when he was an economist for the Federal Reserve Bank in St. Louis.
“My argument: It’s not the size of the gap that matters, it is the fact that we have a growing percentage of the population at or below poverty,” Garrett said. “It seems there needs to be policy about what we can do to move the people at the bottom away from the bottom, while recognizing we don’t want policies in place that discourage people from moving up.”
Nobody has yet to produce a formula to reduce the gap. It has grown under Republican presidents and Democratic presidents. It has grown no matter which political party controls Congress. And it has grown despite major tax cuts in 1981 and 2001 and substantial tax increases in 1993 and this year.
Just two weeks ago, President Barack Obama called income inequality “the defining challenge of our time,” saying that since 1979, the U.S. economy “has more than doubled in size, but most of that growth has flowed to a fortunate few.”
In his speech, Obama cited both income inequality and the inability of Americans to advance from the lower-income group to a higher group. But a 2007 report by the Treasury Department showed that between 1996 and 2005, roughly half the taxpayers in the bottom 20 percent in 1996 advanced to a higher-income group by 2005.
The same report showed only 25 percent of the very wealthiest of American families in 1996 remained in that group a decade later. And the report showed that “the degree of mobility among income groups is unchanged from” 1987 through 1997.
“To close the income gap, the most important thing is jobs,” said Sen. Rob Portman, R-Ohio. “ Second, we’ve got to figure out how to reform our K-12 system so it works better for the kids falling between the cracks.”
Democratic politicians and some economists offer a broad swath of explanations for the gap, ranging from income and business tax cuts that tended to favor the wealthy.
They complain that free-trade agreements and the sharp drop in unionized workers have crippled wage growth for middle-income people. They contend that the federal minimum wage has not been raised enough to close the gap.
But other economists point out that the gap is due to sweeping technological changes in manufacturing that favor better-educated workers while punishing workers without the ready skills to adapt to the new economy.
Combined with the rapid growth of high-paying jobs in the financial and health industries as well as a rapid increase in the pay of chief executive officers, the gap between the top 20 percent and the rest has exploded.
“Certain skills are rewarded more than other skills have been,’’ said Bradley Heim, an economist and professor of public and environmental affairs at Indiana University. “If you are a highly skilled worker, technology has served to complement your skills. The returns to that group have increased and the returns of a lower-skilled worker have decreased.’’
Those changes may be beyond Washington’s power to revise. “You’re not going to pass a law in D.C. that un-does technological change,’’ Heim said. “A good chunk of this is due to larger forces that don’t necessarily have a ready policy response to them.’’
Yet Heather Boushey, executive director of the Washington Center for Equitable Growth, said that federal and state policy decisions have fueled the gap, saying that Congress has allowed the value of the minimum wage “to be eroded over time. We don’t index it for inflation.”
“And then at the very top, we have seen a cultural shift,’’ Boushey said. “Forty years ago having these huge gaps between the top and the bottom was not socially acceptable. Now, it is.”
Democrats have rallied around a menu of ideas, such as raising the minimum wage, ending tax deductions that encourage companies to hire people at factories abroad, expanding pre-school, extending unemployment benefits, raising taxes on the wealthy and increasing Social Security benefits.
“It’s also — and this is where I’m critical of my own party, too — it’s trade agreements and manufacturing strategy that actually focuses on manufacturing instead of financial services,” said Sen. Sherrod Brown, D-Ohio. “This government under presidents from both parties has had a bias toward financial services at the expense of manufacturing. And we need to balance that.”
In his speech two weeks ago, Obama also cited making quality pre-school “available to every child in America.” Although conservatives have complained that programs such as Head Start are not nearly as effective as their backers claim, Boushey and Garrett insist that early education can make a dent in the financial gap.
“In terms of a long-term solution, it is education that matters,” Garrett said. “By the age of 5 or 6, a child’s long-term success is pre-determined by their pre-K environment. Spending more money at the high school or college level, that’s not where we’ll see the big differences. The big difference is preparing young children right away.”
“The problem is poor people are poor because the value of their labor as valued by the market is low,” Garrett said. “There is a reason people working at McDonald’s earn the minimum wage. Giving them more money through a higher minimum wage — in an accounting sense it raises their income, but their productivity hasn’t changed. You want people to permanently increase their productivity.”
JIM VALLEY (JIMVALLEY)
Looking at the graph accompanying this article, I notice that the income of the rich begins to rise faster than everyone else’s around 1980, just as St. Ronald came into power. Many of us have associated his benighted administration with the beginning of a long, slow decline in the fortunes of the bottom 99% of Americans in favor of the wealthy. This graph makes that point very clearly.
DAVID SCOTT (DAVESCOTT)
On another page, money from an inherited family media empire pays for George Will to call for abolishing the minimum wage. You can’t make this stuff up.
TIM SWENSEN (TIM360)
Curiously enough, the old saying, “The rich get richer while the poor get poorer” turns out NOT to be just an old saying.” Hey Republicans —— tell us about that “trickle down” idea again? It kicks in………WHEN is that exactly?
MICHAEL BARR (ATHENSMIKE)
The changes in the tax code account for much of the inequity. Bring back the top rates of the Eisenhower era or even those when Regan first took office and see the gap shrink considerably. Yes, it’s true that the extremely wealthy pay a large portion of total revenues collected, but it’s still a relatively low percentage of their personal incomes – - testimony to the the truly staggering amounts they rake in annually. And no, they don’t “earn” all that income like ordinary folks do. They simply “acquire” their big bucks mainly through passive investments.
READER READER (READER)
The article states, falsely, that no one has come up with a formula to bring about a change in this gap. Many blame the widening gap on US policies which include income tax structure, wage and labor support and open attacks on such supports for the poor as housing subsidy and food stamps. It is no accident that The lines on the graph begin to part when Ronald Reagan ran on a platform attacking “Welfare Queens,” followed by erosion of the public belief that public policy could impact the extent to which wealth is divided or accessible. To this day it is not possible to discuss distribution, or redistribution of wealth without bringing forth accusations of being a ****** pinko. Face it people, the line at the top didn’t take a sharp upturn because those folks suddenly started working harder than everyone else. It took that turn because we allowed the erosion of protections against them putting more of every dollar of wealth created by the folks at the bottom into their own pockets. And we allowed it because the folks in the middle have been deluded into believing that they have a shot at the top if let the top have its own way. Sorry, but the shot at being on the bottom is an infinitely better bet for most of us–even those who are hard-working, reasonably well-educated, industrious and honest.
K W (KINETICS)
Free market capitalism can empower/reward those most productive & most innovative. This meritocracy should not only be tolerated but celebrated in a democratic nation. But capitalism has known excesses, clearly demonstrated by history. Typically they are collusion & monopoly in all its varied forms. It happened in the gilded era, again in the roaring 20′s and has raised its ugly head again over the last 30 odd years. Now we have massive wealth going to many without merit, whose only claim is they are able to get away with it. The regulatory system, our government, is captured by the wealthy to perpetuate the scam. Needless to say, it usually does not end well and could encourage the growth of socialist & communists parties. In short, if the rich don’t tone it down, they may have it torn down.
D MONKEYMAN (DUCKMONKEYMAN)
I am pretty tired of being trickled on from St. Ronnie’s economic plans that never really ended. The decline of the middle class and wages is in direct correlation to the decline of worker’s rights, the rise of “right to work”, and the silencing of the true working Americans. Leave it to Koch-clone Portman to mouth the party line of blaming it on teachers while the Republicans slash education funding and destroy schools gleefully demonizing educators. He must have pulled out his Club for Growth and Americans for Prosperity cue card and read from it directly.
BRENNAN CLEGG (HACKJR)
We can thank rising inflation costs for this one
JIM VALLEY (JIMVALLEY)
Brennan, I must tell you that a concern among the economies of the world, including ours, is that inflation is currently too LOW, not too high. Federal Reserve Chairman Ben Bernanke said last month that the U.S. central bank would remain alert to preventing inflation from declining too far from its goal of 2 percent. The Fed’s preferred gauge of price pressures facing consumers, the PCE price index, is running at slightly above 1 percent on a yearly basis. Bernanke said this was “too little.” The economics of this are kind of involved, but basically if the average inflation rate is too low, then the economy faces a greater risk that a given adverse shock could distort labor markets, induce debt deflation, or cause monetary policy to become constrained by the zero lower bound on nominal interest rates. These risks imply that undershooting a zero inflation objective is potentially more costly than overshooting that objective by the same amount, and that setting the inflation objective at a rate a bit above zero provides some insurance against these risks. Hence Bernanke’s target of 2%, but no lower.