Stock Buybacks: Directors Identify Four Reasons Stock Buyback Programs
Stock Buybacks: What Directors Say
Stock Buybacks: Research Findings
These findings are contained in a new report, Buybacks and the Board: Director Perspectives on the Share Repurchase Revolution, from the Investor Responsibility Research Center Institute (IRRCi) and Tapestry Networks.
The research notes that Standard & Poor’s (S&P) 500 companies acquired $166.3 billion of their own shares in the first quarter of 2016, more than in any other quarter since the financial crisis. For the past nine quarters, more than 370 S&P 500 companies repurchased shares, and S&P 500 companies spent over $1.5 trillion on buybacks during the past three years.
Between 2003 and 2013, S&P 500 companies doubled their spending on share repurchases and dividends. But, at the same time, companies cut spending on investments in new plants and equipment. The report’s key findings are as follows:
- Companies repurchase shares for four main reasons– to return capital to shareholders; invest in the company’s shares; offset dilution from using equity as currency; and/or alter the company’s capital structure. Directors define what constitutes a successful buyback program differently depending on the reason(s) the buybacks were initiated.
- Most directors disagree with criticisms of buyback programs. The two most common criticisms are that buybacks jeopardize corporate growth and that they lead to large, unjustified pay packages for executives. Directors, with few exceptions, say that their companies can afford both buybacks and adequate investment. Directors also reported that buybacks do not unjustly enrich senior executives, as compensation plans are adjusted for buybacks.
- There is room to improve corporate disclosures about share repurchase programs. Few companies publicly disclose details about buyback decision-making and very few state the reasons for a specific buyback program. With regard to executive compensation, though a number of directors mentioned that their companies project how buyback activity will affect earnings per share and adjust targets accordingly, only 20 S&P 500 companies disclose that they do so.
- Macroeconomic factors make share buybacks attractive. Monetary and fiscal policies and macroeconomic forces have encouraged repurchase programs. Many directors said that they would be unlikely to find enough good opportunities to invest all their companies’ available capital in today’s low- growth, low-interest-rate environment, and that it was often better to return capital to shareholders than to hoard capital or invest in projects with less-than-desired projected returns. Directors also said they tend to prefer buybacks to dividends because they believe a buyback program offers greater flexibility over time.
- U.S. tax policies that discourage companies from repatriating foreign cash have also spurred buyback activity. The large build-up of capital in non-US affiliates means that companies have an emergency fund to draw upon should it become necessary. As a result, creditors offer very attractive loans to companies, meaning some corporations are able to engage in almost costless borrowing to fund buyback programs.
Stock Buybacks: Practitioner Takeaways
- When multiple committees and individuals have responsibilities for aspects of buyback programs, those responsibilities should be stated directly and the outcomes communicated clearly, internally and externally.
- Companies face criticism for rewarding senior executives for buyback programs. Explaining the relationship between buyback programs and executive pay – particularly the relationship between buybacks and metrics like EPS in short- and long-term plans – improves disclosure and demonstrates effective oversight.
- Disclosing the purpose of a buyback program, along with a short discussion of the factors relevant to a given buyback program, would enable investors and others to better evaluate the company’s philosophy relating to share repurchases and, over time, help them judge how successful buybacks have been relative to the goal(s) established.
- Of course, I would go further. Companies doing stock buybacks should factor out increased compensation from such programs to executives and directors.
Stock Buybacks: Quotable Quotes
Says IRRCi executive director:
A trillion and a half dollars in buybacks over three years certainly returns capital to shareowners and reduces the number of shares outstanding. That’s why buybacks are popular. But, some view buybacks as financial engineering to juice short-term corporate performance at the expense of investments that would better grow companies and the economy over the long-term….
Corporate board directors are charged with making sure buyback programs are well-designed and well-executed. However, there was little information available about how directors themselves analyzed buybacks. Not surprisingly, the research finds that directors believe they do a good job, but they also admit that they could do a better job disclosing the specific reasons for each buyback program to investors.
According to Richard Fields, report author and Tapestry Networks principal:
Decisions about capital return and allocation are among board members’ most important responsibilities. The 44 directors we interviewed take these decisions seriously to ensure share repurchases occur only when in the company’s best interest. But, we find that few companies effectively disclose the strategies and thinking behind buybacks. As a result, few companies get credit for the rigor of their buyback decision-making.
Said James McRitchie, publisher of the popular blog CorpGov.net:
Decision-makers with huge amounts of options or restricted stock units (RSUs) are incentivized to enhance the value of those equities through stock buybacks, instead of by allocating resources to innovation. Its like fishing with dynamite. Learn from history. Who are the prime beneficiaries? Too frequently they are corporate executives and directors with their stock-based pay. Incumbent managements risk being too deeply in bed with value extractors. Any bump in compensation from buybacks should be deducted by the boards and executives that implement them.
Larry Fink, the chief executive of BlackRock, recently sent a letter to leading CEOs expressing concern:
Many companies continue to engage in practices that may undermine their ability to invest for the future. Dividends paid out by S&P 500 companies in 2015 amounted to the highest proportion of their earnings since 2009. As of the end of the third quarter of 2015, buybacks were up 27% over 12 months. We certainly support returning excess cash to shareholders, but not at the expense of value-creating investment.
Stock Buybacks: Methodology
To conduct this study on how companies make decisions about share repurchases, Tapestry Networks reviewed available literature and current capital market reports, and interviewed 44 directors serving on the boards of 95 publicly traded U.S. companies with an aggregate market capitalization of $2.7 trillion. The interviews were conducted from August 2015 through May 2016 on a not-for-attribution basis.
Stock Buybacks: Research Sponsors
The Investor Responsibility Research Center Institute is a nonprofit research organization that funds academic and practitioner research enabling investors, policymakers, and other stakeholders to make data-driven decisions. IRRCi research covers a wide range of topics of interest to investors, is objective, unbiased, and disseminated widely.
Tapestry Networks helps corporate leaders become more effective and more confident in carrying out the challenging task of governing and leading the world’s largest companies. We do this by bringing together non-executive directors, regulators and executives from North America and Europe, to learn from one another and to discuss their role. For well over a decade our cross-sector networks of audit committee chairs, compensation committee chairs, lead directors, and our networks of top leaders in banking, insurance and healthcare, have been advancing the state of the art of governance and leadership.
Stock Buybacks: Additional Recent Research
Lazonick, William, How Stock Buybacks Make Americans Vulnerable to Globalization (March 1, 2016). Working Paper, East-West Center Workshop on Mega-Regionalism – New Challenges for Trade and Innovation, 2016.
Rubio, Silvina, The Bright Side of Stock Repurchases (June 2016).
Evgeniou, Theodoros and Vermaelen, Theo, Share Buybacks and Gender Diversity (July 24, 2016). INSEAD Working Paper No. 2016/52/DSC/FIN.
Lazonick, William and Mazzucato, Mariana and Tulum, Oner, Apple’s Changing Business Model: What Should the World’s Richest Company Do with All Those Profits? (October 01, 2013). SWPS 2013-07.