Apple, Cisco and IBM prove that stock buybacks are a sham
Another earnings season, another load of massive stock-buyback announcements.
In the past few weeks alone, we saw:
• A $4 billion boost to General Motors’ stock-buyback plan, bringing the total $9 billion.
• A new $4 billion buyback plan from MasterCard
• A new $10 billion buyback program at battered oil company Schlumberger
The repurchase amounts are big, and they are only getting bigger.
“Among the 1,900 companies that have repurchased their shares since 2010, buybacks and dividends amounted to 113% of their capital spending, compared with 60% in 2000 and 38% in 1990,” Reuters said in a recent special report on the buyback craze.
You would think that with all that cash being plowed into stock buybacks, investors would be reaping the rewards. But, sadly, more often than not, the buybacks are simply a waste of money as shares are bought at inflated values, diluted by employee stock awards and ultimately come at the cost of growth and innovation.
Here’s why stock repurchases are good for nothing, and why companies like Apple , Cisco and IBM need to wake up and stop wasting their money on buyback boondoggles.
Stock buybacks are often ill-timed
Amusingly, corporations frequently embark on massive buyback schemes after they have seen big growth, not before. That means they are particularly susceptible to buying shares at a peak.
And when you’re deploying billions of dollars, paying even just a 5% or 10% premium can add up to serious waste.
A great example is Apple, which tried to appease Wall Street as its growth slowed in 2012 by announcing a stock-buyback plan. And it began that mission by spending almost $2 billion between Sept. 30 and Nov. 3, 2012, in the range of $80 to $90 a share (adjusted for splits).
Apple then proceeded to crash to as low as the $50s in 2013, and didn’t reclaim the $90 mark until mid-2014.
Now, the buyback bulls may assert that Apple wisely kept the pedal down across these lows to keep buying its shares at what is roughly half the current share price. However, that’s hardly a defense considering Apple’s stock has gone basically nowhere since the start of this aggressive buyback plan; the shares are falling close to $90, where Apple was after launching the scheme back in 2012.
And by the way, that includes a $6 billion accelerated share repurchase in May 2015 at an average price of $124.24 — on top of $7 billion spent in the fiscal second quarter of 2015 for an average price of $124.11, and $4 billion spent in the fiscal third quarter of 2015 for an average price of $128.08!
That’s a 30% premium from current prices that investors may not see again in 2016 after a rather ugly first-quarter earnings report.
As Warren Buffett famously said in his 2012 letter to Berkshire Hathaway shareholders: “In repurchase decisions, price is all-important. Value is destroyed when purchases are made above intrinsic value.”
Apple apparently hasn’t gotten that memo.
Phantom buybacks don’t actually reduce shares
Worse than buying back shares for a big premium, however, is buying back shares aggressively and not actually reducing the outstanding share amount.
My favorite example of phantom stock buybacks is Cisco. Because while on paper the company looks like it is committed to returning capital to shareholders, the reality is very different than the narrative.
“During fiscal 2015, we repurchased and retired 155 million shares of our common stock at an average price of $27.22 per share for an aggregate purchase price of $4.2 billion,” Cisco says in its 2015 annual report, filed in September.
Good stuff, right? Logically, that means there are 155 million fewer Cisco shares than at the end of fiscal 2014, right?
In fact, on the very first page of its 2015 10-K, Cisco reports 5.061 billion common shares outstanding … while on its 2014 10-K it reports 5.099 billion common shares — a drop of just about 38 million, which is less than a quarter of the purported buyback.
That’s because Cisco loves to grant stock-based awards to employees. In fact, share-based compensation expenses in fiscal 2015 were $1.44 billion.
So if you’re one of those suckers who thinks the repurchases are meant to juice earnings per share, you should be more skeptical of those Cisco press releases crowing about returning capital to shareholders.
I have no beef with stock-based compensation in principle, as long as those receiving awards remain loyal, motivated and deliver shareholder value, but a look at the long-term performance of Cisco seems strongly at odds with that concept.
Opportunity cost is real for corporations
If you think the examples of Cisco and Apple may not apply to your specific holdings, it’s worth considering the overall waste of buybacks across the market at large.
Consider that Apple has spent $110 billion over a little more than three years. That is a truckload of money! In fact, at current valuations, only 36 companies in the entire S&P 500 would be too pricey for Apple to buy them with that kind of change.
And if you don’t like the idea of acquisitions because they tend to be boondoggles in and of themselves, consider all the R&D or staff or equipment that kind of capital could have been spent on.
Consider a recent analysis by Reuters, which calculated that IBM spent $125 billion on buybacks since 2005 but only $111 billion in capital spending and R&D. That would be fine if IBM was on top of its game, but the shares are down 22% in the past five years versus a 65% rise for the S&P 500 as revenue continues to decline and new products can’t roll out fast enough or generate enough money to keep Big Blue’s numbers from shrinking.
Sure, it’s a leap of faith to think IBM could have deployed that cash effectively. But $125 billion is a lot of dry powder, and any objective shareholder has to admit that the tech giant hasn’t delivered on its promises of innovation and growth over the past half-decade.
Buybacks come with a steep opportunity cost. And given the aforementioned trends of companies often repurchasing stock at inflated prices and then awarding stock to offset any reductions, it’s not unfair to ask if those billions would be better spent elsewhere.