If you think your stocks are doing poorly, check out the performance of some of the most sophisticated investors, the ones with more knowledge about what’s going on inside businesses than anyone else: companies that buy their own shares.
The companies losing money on these bets are down a collective $126 billion over the past three years, a decline of 15 percent.
Many corporations would have been better off investing that cash on an index fund instead of their own stock. The overall market rose 39 percent over the same period.
The companies could also have distributed that cash as dividends to shareholders, allowing them to spend what is, in the end, their money.
When a company shells out money to buy its own shares, Wall Street usually cheers. The move makes the company’s profit per share look better, and many think buybacks have played a key role pushing stocks higher in the seven-year bull market.
But buybacks can also sap companies of cash that they could be using to grow for the future, no matter if the price of those shares rises or falls.
And the recent losses highlight another criticism: Companies may be good at finding oil or selling bathroom trinkets, but they aren’t always smart stock investors. Some corporations bought ever more of their own shares even as prices tripled from financial-crisis lows and several measures showed the market was overvalued.
“Whenever you see a buyback, the company always says, ‘We think our stock is cheap,’” says Nicholas Colas, chief market strategist at brokerage ConvergEx Group.
They are sometimes so confident that they take out enormous loans just to buy more and more shares. That those shares have now plunged in value is something Colas calls a “great irony” of the bull market.
Among the companies with the biggest paper losses are struggling ones that bought after their stock fell, only to watch prices drop even more. Macy’s, the beleaguered retailer, is down $1.5 billion on its purchases, a 26-percent loss. American Express has lost $4.1 billion, or 34 percent. As the price of oil plunged, driller Chevron racked up $2.8 billion in paper losses, or 28 percent.
The losses are also piling up in unexpected places, such as at companies that have generated solid earnings through most of the bull market, suggesting that there is danger when stocks of even top performers climb too high. Starwood Hotels & Resorts Worldwide and Ford Motor have each lost hundreds of millions on their buybacks, more than a fifth each of what they spent.
Defenders of buybacks say they are a smart use of cash when there are few other uses for it in a shaky global economy that makes it risky to expand. Unlike dividends, they don’t leave shareholders with a tax bill. Critics say they divert funds from research and development, training and hiring, and doing the kinds of things that grow the businesses in the long term.
“The company doing the most buybacks is often not investing enough in its business,” says Fortuna Advisor CEO Gregory Milano, a consultant who has written several studies criticizing the purchases. He says most buybacks are “financial engineering” and a waste of money.
The study looked at 476 companies in the S&P 500 index, leaving out the index members that split off parts of their businesses during the period. Among the findings:
Nearly a third of the companies studied, 153 in all, lost $100 million or more on their purchases in three years.
Not just about oil
Four of the top 10 biggest dollar losers are energy companies. But big losses are hitting a variety of companies, including insurers and banks, retailers, technology companies, airlines and entertainment giants.
Biggest winner, biggest loser
MasterCard has the biggest paper gains from buybacks: $7.9 billion. IBM has the biggest paper losses: $9.8 billion. IBM says it isn’t neglecting long-term investments and notes that the money it spent on R&D, big projects and acquisitions last year was triple what it spent buying its stock.
Gainers help, sort of
When the companies that have profited from buybacks over the last three years are included with the losers, the paper losses narrow to $11 billion. Total spent on buybacks by all companies: $1.43 trillion, more than the annual economic output of all but 12 of 193 countries in the world, according to the World Bank.
Stocks may bounce back, of course, turning losses into gains. But the history of buybacks isn’t encouraging.
Companies often buy at the wrong time, experts say, because it’s only after several years into an economic recovery that they have enough cash to feel comfortable spending big on buybacks. That is also when companies have made all the obvious moves to improve their business—slashing costs, using technology to become more efficient, expanding abroad— and are not sure what to do next to keep their stocks rising.
“For the average company, it gets harder to increase earnings per share,” says Fortuna’s Milano. “It leads them to do buybacks precisely when they should not be doing it.”
And, sure enough, buybacks approached record levels recently even as earnings for the S&P 500 dropped and stocks got more expensive. Companies spent $559 billion on their own shares in the 12 months through September, according to the latest report from S&P Dow Jones Indices, just below the peak in 2007—the year before stocks began their deepest plunge since the Great Depression.