Stock Buybacks

 For corporations with extra cash, there are essentially four options to consider in terms of deploying their cash surplus, and they are as follows:                                                                                                       A.) Make capital expenditures or invest in other ways into their existing business.                                   B.) Pay cash dividends to the shareholders.                                                                                               C.) Acquire another company or business unit.                                                                                           D.) Repurchase their shares.                                                                                                                    Increasingly over the past few years, many companies have opted for "D" above, buying back a portion of their outstanding shares. The last three years have seen more than $1 trillion in share buybacks, for each year. It has reached a magnitude where it has become a controversial business and political issue.

In my opinion, the reason, the motive why a corporation elects to buy back shares, is the determining factor in judging whether the action is deemed positive or negative. Famous investor Warren Buffett once said critics of stock buybacks are "either an economic illiterate or a silver-tongued demagogue" or both, and all investors benefit from them as long as they are made at the right prices. He opines they should be utilized when the share price is "well below intrinsic value." In that case, the company is entirely justified in using its capital to repurchase its own stock. Share buybacks reduce the supply of stock available in the market and increase Earnings Per Share (EPS) on the remaining shares. The EPS is one of the most important metrics reviewed by investors. The argument can even be made that it is the most important piece of information. Buybacks mathematically increase the Earnings Per Share, which often translates to boosting the value of shares that management feels are grossly undervalued. 

There is no shortage of parties that believe stock buybacks should be banned under any circumstances. I don't agree with this contention, but understand why this position enjoys support. Until 1982 stock buybacks were considered market manipulation, and therefore illegal. The buy-back restrictions were swept away in the flood of market deregulations during the Ronald Reagan era. Those opposed to capitalism, in general, accuse corporations of boosting their own stock at the expense of investing in innovation and rewarding their workforce. They prefer increased wages, lowered prices, or a combination thereof. According to many on the political left, stock buybacks are the epitome of corporate greed. Of course, the denizens of the political left have never been known for acumen in economics and commerce.

There is no question, however, that some corporations have abused buybacks at times to the detriment of their workers and the majority of shareholders. Buybacks can help increase the value of stock options, which are part of many executive compensation packages. One common measurement for these executive bonus programs is the aforementioned Earnings Per Share (EPS). Buybacks artificially and mathematically boost EPS. At times this will allow insiders to profit while they have nothing to increase the company's actual value. The Federal Reserve Bank's monetary policies over the past decade or so have greatly contributed to the preponderance of stock buybacks. Until a couple of years ago, interest rates were artificially depressed to the extent that it was extremely enticing for corporations to utilize ultra-cheap debt to fund buybacks. The cheap debt distorted the value of the S&P 500 through an unsustainable pace of buybacks. Much, if not all, of the general stock market appreciation can be attributed to the buying demand fueled by share buybacks.

Starting in 2023, buybacks of publicly traded stocks were subject to a 1% excise tax. There have been rumblings in Congress that the Democrats would like to increase this excise tax to 4%. The upcoming elections in November (2024) will go a long way in determining how buybacks are treated in the future. I fundamentally struggle with the concept of the government dictating how a corporation should conduct its business. If corporate management and the Board of Directors abuse their power via ill-timed and ill-conceived stock buybacks, then shareholders should be the party that makes changes, not the government.