Disclosing share buybacks, or: sugar high!

A recent article in Economia cited Senator Elizabeth Warren’s denunciation of stock buybacks, as a practice that “create(s) a sugar high for the corporations. It boosts prices in the short run, but the real way to boost the value of a corporation is to invest in the future, and they are not doing that.”

It’s a common line of argument, leading to proposed legislation by her colleague Sherrod Brown:

  • Brown said his bill would both prohibit “excessive” buybacks and require companies to offer employees $1 for every $1 million spent on stock repurchases.
  • “Wall Street’s obsession with accumulating wealth for the people who already have it is by their explicit design – and it comes at the direct expense of American workers,” the Ohio lawmaker said from the National Press Club in Washington, according to prepared remarks.
  • …Brown, the ranking member on the Senate Banking Committee, illustrated the potential impact of the new legislation by using J.P. Morgan Chase as an example. The New York bank bought back about $20 billion of their own stock in 2018, meaning that employees would be entitled to a dividend of $20,000 each, he said.

In the current political environment though, there’s not much chance of the proposal going anywhere.

The Economia article, written by Alex Edmans, disputes the “sugar high” premise, arguing that the majority of buybacks constitute rational deployments of cash in the circumstances:

  • …a great CEO doesn’t just spend money willy-nilly, but can discern between good and bad investment opportunities.
  • They show restraint when they’ve taken all profitable projects, and pay out the spare cash. This allows shareholders to invest it in other companies with great investment opportunities that otherwise wouldn’t be financed.
  • The idea that the money from share buybacks is redeployed elsewhere is supported by the evidence. Further studies find that buybacks occur when growth opportunities are poor and when companies have excess capital. So companies make investment decisions first and buy back stock out of surplus cash, rather than repurchasing shares first and investing only out of the scraps left over.

Even if we accept that premise though, it doesn’t necessarily nullify the merit of Brown’s proposal (if, that is, you’re sympathetic to the ideological view that other stakeholders, workers in particular, rank with shareholders as worthy recipients of such “spare cash.”).

Whatever one might think of this, the strategy underlying such programs isn’t often disclosed in sufficient detail to allow you to distinguish the good ones from the bad ones (and Edmans does acknowledge that buybacks destroy value in certain cases, when undertaken only to meet analyst earnings forecasts). For example, I looked at the most recent audited statements of the (randomly selected) Toronto-Dominion Bank. In the statement of changes in equity, the “common shares” category contains a $355 million labeled as “purchase of shares for cancellation and other,” and the retained earnings category contains a $1,880 item labeled as “Net premium on repurchase of common shares, redemption of preferred shares, and other.” Pulling these two amounts together, a note sets out the terms of the “Normal Course Issuer Bid” arrangement under which the Bank may repurchase up to specified amounts of its own shares for cancellation, and says: “During the year ended October 31, 2019, the Bank repurchased an aggregate of 30 million common shares under the Current NCIB and a prior NCIB, at an average price of $74.48 per share, for a total amount of $2.2 billion.” The MD&A repeats this information without elaborating further. So the information is there, and one can use it to compare, for instance, the $2.2 billion expended on this practice against other investing and financing activities. But as far as I can see, there’s no discussion anywhere of how the company made this determination – of how it assessed the strategic and other merits of this cash deployment, and of how it determined this to be the optimal amount.

A recent slide deck relating to the IFRS Foundation’s ongoing management commentary project indicates that staff currently propose to require a discussion and analysis of the entity’s funding and liquidity strategy, including “the entity’s dividend and other distribution policies, including its plans for returning any surplus cash resources in the context of the above.” This would seemingly require that buyback arrangements be addressed to some extent. But the appropriate degree of detail would be heavily subject to interpretation, and in any event, the practice statement resulting from that project will be non-mandatory.

Regardless though, if management is confident about the merits of its actions in this regard, then it shouldn’t need any great nudge to convey that in its disclosure. Where a buyback evidences “restraint (as a result of having) taken all profitable projects,” then an explanation of that fact, and of the assessment leading up to it, should surely be provided. You might argue that management might in some cases be reluctant to shine a light on such an unpromising investing landscape. But better to control the direction of the light while you can, before it swings around to expose you as naked…

The opinions expressed are solely those of the author


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