August 8, 2022

Buybacks: Supervillain Plot or Misunderstood Financial Tool?

While companies and stockholders are extremely fond of stock buybacks, many other people don’t think as highly of them. In fact, a lot of commentators are vehemently opposed to them.  For instance, this excerpt from a 2020 HBR article essentially says that they’re something that only a Bond villain could love:

With the majority of their compensation coming from stock options and stock awards, senior corporate executives have used open-market repurchases to manipulate their companies’ stock prices to their own benefit and that of others who are in the business of timing the buying and selling of publicly listed shares. Buybacks enrich these opportunistic share sellers — investment bankers and hedge-fund managers as well as senior corporate executives — at the expense of employees, as well as continuing shareholders.

Critiques like these have gotten some traction, and to a certain extent are reflected in the SEC’s recent proposals for additional disclosure on buybacks. While I doubt that Ernst Blofeld would oppose a buyback of SPECTRE’s stock, a couple of recent studies have popped up suggesting that buybacks aren’t bad, just mostly misunderstood. The first study, from three finance profs, says that critics who side with the views expressed in the HBR article have it all wrong. Here’s an excerpt from the abstract:

Repurchases account for a tiny fraction of the trading volume in a typical stock, making their price impact too small to facilitate short term price manipulation. Price appreciation following repurchases is modest and does not reverse on average, suggesting prices increase due to repurchases signaling firms’ good prospects. Also, we find no evidence that CEOs of repurchasing firms are paid excessively or that repurchases crowd out valuable investment opportunities.

The second study, from the Bipartisan Policy Center, says that greater attention should be paid to the good things that buybacks enable companies to accomplish, and that repurchases should be evaluated under a dynamic approach that takes into consideration the best ways to ensure the most efficacious use of capital in the U.S. economy:

When one looks at repurchases through a dynamic, instead of a static, approach, the benefits appear to have a much broader impact on society. Repurchases provide investors, including those beneficiaries with 401ks and pensions that are invested market wide, with additional financial resources that they otherwise would not have had. These additional resources may in turn be reinvested or saved, which can provide needed capital for small companies and others to facilitate innovation and growth.

John Jenkins