- In the five years from 2010, S&P 500 companies spent more than $2 trillion – yes, trillion – to buy back their own stock.
- In the year ending 30 September 2015, S&P 500 companies spent 64.6% of their net income on share repurchases.
- In fact, buyback has been the biggest driver of stock demand since 2009.
Corporate buyback – in which companies repurchase their own shares, overwhelmingly on the open market – has been rampant for decades, but was boosted after the financial crash by the availability of cheap credit. And while share repurchases fell 20% last year, President Trump’s tax cuts may give buyback renewed impetus. Just under half of companies who could benefit from the plan by repatriating cash stored abroad say they would use the windfall for share repurchases (buyback was the second most popular option after paying down debt).1 At the heart of the bullish stock-market is the constant stream of buyback funds.
Why do companies want to buy their own shares? Because fewer shares means higher earnings per share (EPS) – the magical measure of corporate success that Wall Street watches. The problem is that it’s all smoke and mirrors, or, as others have dubbed it, “financial engineering”. It is distorting corporate behaviour in ways that are profoundly damaging to America’s long-term economic health. Buyback is the epitome of short-termism, fuelled by corporate greed.
“Value extraction over value creation”
Between World War II and the late 1970s business focus was largely on value creation – earnings were retained to be reinvested in productive capacity; in physical and human capital. Yes, the aim was to drive further profits, but through real, sustainable growth.
Then, as economist William Lazonick has argued, in the late seventies the “retain-and-reinvest approach” gave way to a “downsize-and-distribute regime”, or, to put it even more starkly, “value extraction over value creation”.2
This was in part the result of a new business management mantra: ‘shareholder value maximisation’, and coincided, unsurprisingly, with large increases in stock-based executive pay (tying CEO interests more closely to those of some shareholders, the ones looking for short-term gains). In 2012, pay packages among the 500 highest paid executives in US public companies averaged over $30 million, with more than 80% of that linked to stocks and shares.3 Increasing share value became the overriding focus of corporate America.
One study published in 2006, and based on a survey and interviews with chief financial officers, shows this perfectly. The majority of companies would rather sacrifice longer-term value than miss short-term earnings targets. 80%, for example, would cut discretionary spend such as R&D and maintenance to meet an earnings target, and more than half would defer valuable long-run projects for that same reason.4
Join the discussion
Join like minded readers that support our journalism by becoming a paid subscriber
To join the discussion in the comments, become a paid subscriber.
Join like minded readers that support our journalism, read unlimited articles and enjoy other subscriber-only benefits.
Subscribe