Bloomberg reported this week that companies in the S&P 500 are poised to spend $914 billion on share buybacks and dividends this year, or about 95% of their corporate earnings. Data compiled by Bloomberg and S&P Dow Jones Indices show that money returned to stock owners exceeded profits in the first quarter and may again in the third quarter of 2014.
The proportion of cash flow used for stock repurchases has almost doubled over the last decade while it’s slipped for capital investments. So, who is benefiting? From Bloomberg: (emphasis by the Wrongologist)
Buybacks have helped fuel one of the strongest rallies of the past 50 years as stocks with the most repurchases gained more than 300% since March 2009. Now, with returns slowing, investors say executives risk snuffing out the bull market unless they start plowing money into their businesses.
The S&P 500 Buyback Index (yes that is a thing) is up 7.5% percent this year through October, compared with the 6.5% advance in the S&P 500. It did better in the past, beating it by an average of 9.5% since 2009. Excluding the two years in which we had a recession (2001 and 2008), dividends and stock buybacks have represented 85% of corporate earnings since 1998. So, there has been little reinvestment in the business going on. Stock repurchases have helped buoy the bull market since 2009 by about $2 trillion.
Consider that corporate revenues have had an average growth rate of 2.6% per quarter in the past two years, while per-share earnings grew at 6.1%, more than twice as fast, says Bloomberg. Since earnings per share (EPS) is the ratio of the total earnings divided by the number of shares outstanding, you can either increase the numerator or decrease the denominator in order to grow EPS.
Corporate America has decided it is easier to reduce shares rather than to grow earnings.
This translates into bad long-term corporate strategy. During the same period, the portion of earnings used for capital spending has fallen to about 40% from more than 50%. This use of cash to fund buybacks has left US-based companies with the oldest plants and equipment in almost 60 years. Bloomberg says that the average age of fixed assets reached 22 years in 2013, the highest level since 1956, according to annual data compiled by the Commerce Department.
Today, shareholders are the most mobile of corporate stakeholders. The days of “buy and hold” investing are over; it is now just for the smallest of investors. For example, high frequency trading (HFT) represents 70+% of trading by volume. The HFT “investors” often hold share ownership for fractions of a second. The HFT firms are in bed with professional fund managers who own large chunks of equity in public companies. Together, these shareholders ONLY want corporate strategies that maximize short-term profits and increasing dividends. Coupled with the growing trend of limited, or little, voting rights for stock ownership by the public, professional managers have a free hand to get wealthy without responsibility for longer term corporate performance. This plays into the hands of CEOs and other C-level managers who derive most of their compensation from increasing value of stock. Equilar, an Executive Compensation firm, reports that about 63% of S&P CEO compensation is in the form of stock.
This is not managing a business, it is liquidating a business. While it may be in the individual executive’s short-term interest (company stock appreciation and bonuses) ultimately, it will kill the US economy. Look for more complaints about the American workers when they are unable to compete, using worn out, or obsolete equipment.
We need different ideas to inform our effort to steer the ship of state to higher GDP growth and full employment. How about tying executive performance to adequate return targets for all STAKEHOLDERS rather than to a maximized return to shareholders who no longer buy and hold shares?
You can only go so far with financial engineering before you actually have to improve your business with real revenue and profit growth. Companies have done about all that they can in terms of maximizing the ability to do these buybacks.
What would be wrong with trying some new ideas?
In several dystopian scenarios, computers become self-aware and take over. Well that has not happened, but if we replace computers with corporations, they have become, in a manner of speaking, self aware. And now instead of service the larger economy, building production capacity they are engaged entirely in matters that benefit themselves. Yes, ultimately the benefits go to well to do persons, but they are not expanding capacity nor are the even creating good jobs.
So no- these are not job creators.