What do Apple, Wells Fargo, Citigroup and Applied Materials, among many others, have in common … they have been splurging on repurchasing their own stock at a high dollar, and seeing the value of their stock purchases sharply decline.
Apple spent about $62.9 billion on buybacks in the first nine months of 2018, with the market reducing that value by $9 billion. “If they made an acquisition that decreased in value this much, people would be up in arms,” said Nell Minow, vice chairwoman of ValueEdge Advisors, a corporate-governance consulting firm. “They have one job, and that is to make good use of capital.”
However, since the financial crisis, there’s basically been only one buyer of stocks, and it’s not the average individual who was burned by the crash after the 2008 market plummeted and they lost their investments, but companies who have engaged in the largest debt-funded buyback activity in history.
And in 2018 reduced taxes also helped fund the buybacks, with Corporate America celebrating this first year under the new tax law by rolling out a record $1 trillion plus in stock buybacks “It’s no coincidence,” said David Santschi, TrimTabs’ director of liquidity research. “A lot of the buybacks are because of the tax law. Companies have more cash to pump up the stock price.” Buyback announcements have spiked 64% in 2018…”
Wall Street executives have historically loved buybacks as they artificially inflate earnings per share by reducing the numbers of shares outstanding and they normally drive the price of stocks up by virtue of their being a price-insensitive buyer in the open market. And studies have shown that, indeed, the open market buybacks have influenced the market, with stock prices many times declining during the “blackout” periods prior to earnings releases when buybacks are turned off.
Yet, Mr. Santschi has a different perspective “Companies tend to buy high. When markets go down, buybacks go down …They are doing buybacks because they feel confident and business is good. Most companies don’t care what the stock price or valuation is.”
JPMorgan Chase CEO Jamie Dimon told reporters during a conference call held by the Business Roundtable, earlier this month, “It’s not like the money disappears … The notion that it’s somehow only going to shareholders and CEOs is completely wrong.”
However, in further assessing the prudence of buybacks, let’s not forget the buyback misadventures of both Sears, now bankrupt, and General Electric, a once stellar company. In 2016 and 2017 GE spent $24 billion on share repurchases at extremely high prices. They are now faced with a cash crunch and have lost 59% of its stock value.
Last year, GE announced plans to lay off 12,000 workers in its beleaguered power division. GE also cut its dividend in half, just the second time since the Great Depression that the company touched that investor perk.
Since 2005 Sears spent $6 billion buying back its own shares, leading up to 99% stock price plummet and cash crunch which has put them in bankruptcy.
Stock buybacks have both supporters and detractors.
Companies contend that buybacks are a good way to return excess capital to shareholders and that the paper losses can reverse themselves if their stocks rebound. But the sharp declines call into question their decision to devote so much to buybacks, rather than using it to invest in their businesses, raise employee pay or pay higher dividends.
In February of this year, I quoted an analysis by William Lazonick and Emre Gomeç of the Academic-Industry Research Network, and Drucker Institute Director Rick Wartzman, who tabulated total business commitments for both buybacks and employee compensation. This analysis shows that “corporate America has pledged 30 times more to buying back its own shares than to investing in its workforces.”
At one time buybacks were considered stock manipulation and were generally illegal prior to 1982, when then Securities and Exchange Commission chief John Shad, the first Wall Street executive to take up the post, and his fellow Reagan appointees to the SEC instituted 10b-18, the “safe harbor” rule. That rule allows corporate executives to massively buy back shares and grants them immunity from stock-price manipulation regulations so long as they follow certain restraints. All of a sudden, thanks to the SEC it was legal to manipulate stock!
So who benefits?
Critics say rather than buybacks earnings should be invested, put in wages, infrastructure and investing in the company itself. Apple claims it plans to create 20,000 U.S. jobs and invest $30 billion in U.S. operations over the next five years. We’ll see.
Earlier this year, William Lazonick (noted above) and Ken Jacobson wrote in a New York Times op-ed that the principal tool for extracting value from companies and handing it to shareholders is the stock buyback, which usually boosts a company’s stock price. Buybacks are favored by top executives, who are paid primarily in stock options and stock awards and encouraged by ever-more-powerful hedge-fund activists.
They believe “stock buybacks warp the economy.” The Reward Work Act, introduced by Senator Tammy Baldwin in March of this year, would ban stock buybacks done as open market repurchases while still allowing for buybacks done through tender offers.
Florida GOP Senator Marco Rubio argues that the tax code shouldn’t encourage buybacks. “When [a] corporation uses profits for stock buybacks it’s deciding that returning capital to shareholders is better for business than investing in their products or workers,” Rubio said. “No surprise we have work life that is unstable & low paying.”
In a previous post I quoted Danielle DiMartino Booth, a former Federal Reserve of Dallas executive, and author of FED Up , as saying “money kept those who already have the money and Wall Street alive and flourishing, while Main Street struggles.”
So, Wall Street execs get wealthy at the expense of the company’s future, its employees and the economy. In a Financial Times op-ed Rana Foroohar said, ”It is easier for chief executive officers with a shelf life of three years to try to please investors by jacking up short-term share prices than to invest in things that will grow a company over the long haul.”
It’s a new year, and it’s time we started paying attention to what constitutes a sound economy.
Mr. Lazonik and Mr. Jacobson recommend in the NYT op-ed “Short of a Congressional ban on buybacks, as Ms. Baldwin proposes, the S.E.C. should immediately rescind Rule 10b-18, and confront the reality of stock market manipulation that open market repurchases entail. If Congress and regulators do not take action to rein in buybacks, the rampant economic inequality that already afflicts the United States will only get worse.
Tax windfalls are welcomed and needed. However, what’s the outcome? Are they being used to strengthen the economy, as they were intended for the benefit of all, or are they being used through the questionable exercise of stock buybacks to put more money into the pockets of corporate investors and Wall Street titans?
Richard Bowen is widely known as the Citigroup whistleblower. As Business Chief Underwriter for Citigroup during the housing bubble financial crisis meltdown, he repeatedly warned Citi executive management and the board about fraudulent behavior within the organization. The company certified poor mortgages as quality mortgages and sold them to Fannie Mae, Freddie Mac and other investors.
