Share buybacks often boost stocks and have supported the markets as companies “reinvest” by purchasing shares.
An astonishingly high percentage of earnings is spent on these corporate buybacks. The money spent is under the guise of returning more money to shareholders. Famed investor Warren Buffett has said he prefers buybacks to dividend payments when the cash hoard is high.
Truth be told, sometimes the confidence boosting buys are a less than subtle form of financial engineering. An announcement of a billion dollar plan to buy a stock is usually welcomed by shareholders but not always a boom.
Giving the cash lessens money that the company could use to invest in future growth projects, or may be a sign that they don’t have anything good to do with the money.
Purchasing shares reduces the outstanding float, which is the denominator in the most watched quarterly metric of earnings per share. When the number of shares is reduced, it can appear like earnings are increasing via addition by subtraction.
Three Things to Think About:
1) Most cash is typically generated not at the beginning of the business cycle, but closer to the end. Corporations now sit on over a trillion dollars in cash after a seven year bull market run.
2) Earnings growth can be masked by buying back shares to stabilize the earnings per share numbers.
3) There is a buyback blackout period about a month, days prior to an earnings announcement. The buying bid is removed during that window which can add to stock volatility.
Knowing that a stock you own is available for repurchase can instill confidence that the company thinks their shares may be cheap. They may truly believe the stock should be more valuable, but they may just not have anything better to do with the money.
