Submitted by: Submitted by dsager45
Views: 295
Words: 336
Pages: 2
Category: Business and Industry
Date Submitted: 04/10/2011 08:47 PM
Saj Karsan has published a blog post on the poor timing of corporate share buyback programs. He observes that companies often repurchase their shares when the market is most enthusiastic about their prospects, and the share prices are correspondingly high. While Saj makes an excellent and important point, I want to defend some of the companies he cites as examples in his post.
A share buyback is a way for a company to allocate capital that cannot be productively deployed in its operations. The company can pay the money out as a dividend, or use it to repurchase some of its stock. By reducing the number of outstanding shares, the company increases the share of future earnings that an ongoing investor will receive. Is this increased share of future earnings worth the money spent on the stock repurchase, or would shareholders be better off simply receiving a dividend?
The decision by a company to repurchase its own stock can be viewed as any other investment decision. Instead of buying its own shares, the company could have purchased shares of another business, which would have also contributed to future earnings of the company's shareholders. So whether a buyback is a good investment comes down to price. Companies should only repurchase their shares if those shares are undervalued.
As Saj points out, the overall record is not good. Companies tend to repurchase their shares at the wrong time, when the share prices are high, and to slow down their repurchases when the share prices are, in fact, attractive. This is understandable: Prices are generally high when companies have strong earnings and thus have money to spend on buybacks. But it is not excusable, as it wastes shareholder equity.
At the same time, long-term buyback records are quite rational for several companies that Saj cites as examples of poor buyback timing in the near-term. Let's look at Lowe's (LOW). Here is how the number of outstanding shares of LOW has been changing over time