Dividends -vs- share buybacks: opinions and questions I have
March 14, 2010
– Comments (38)
All, I have a few comments and a few questions on divi's -vs- buybacks...
Companies can return money directly to shareholders in two basic ways. The first is a dividend, which is well known. In paying a dividend the company directly returns cash to shareholders.
The second is a stock buyback. There a company takes excess cash and buys back shares on the open market. This results in a smaller float and, in theory, a higher share price if the market values the company at the same market cap. Some stocks that are fond of buying back shares include DELL, CSCO, GME, JNJ (also pays a dividend) and more. Indeed, share buybacks are extremely common these days.
So which is better? In theory a buyback is better because shareholders are not taxed on it, and it should have the same net effect. Imagine that Checklists Booking Agency and Zebra Ranch (ticker: CBAZR) is worth a market cap of $1 billion every day (never changes) from now until 2020. And it pays a 5% dividend each year or it buys back 5% of the float each year on the open market. So we have
constant $1 billion market cap
$50 million of shares bought back each year OR
$50 million of dividends bought back each year
Shares start at $100 each
You start with 1000 shares
After 10 years with the buyback, in theory, the shares would be $158 and your portfolio would be worth $158,000. After 10 years of dividend reinvestment, the shares would be $100 (constant market cap and constant float) and your portfolio would be worth $143,000. The difference is that you pay taxes on the dividends, but you don't pay taxes on the share buybacks.
disclaimer: in 100% of posts done by checklist34, except if noted in said post, all math is quick and rough to illustrate the point and is never done anally so as to be perfect. Broad points are generally relevant, specific minute details rarely are, and I'm lazy and hate wasting time.
PRACTICE -VS- THEORY AND SPECIAL SITUATIONS
Dividends are income, buybacks are not. If you need to generate income from a portfolio to live... then obviously a buyback does nothing for you.
Dividends are tangible and can't be taken back. A buyback does not help shareholders if the shares go to zero. Witness the stock of GM. Your grandfather, an extremely rich man, put all of his net worth except his house and what he needed to live for the next 50 years into GM in 1962 and the nproceeded to go on a 48 year drunk, he passed away just recently. He never left any instructions on what to do with the dividends so they just sat in his account, maybe accruing money market interset.
If GM had spent billions of dollars on buybacks only over that time, he would now have about 2% of his money left, and you'd inherit nothing. The shares are now worth about 57 cents, someday to be zero presumably.
However, as it was, GM paid dividends. And a whole hell of alot of them at that. In fact over those 50 years GM paid out nearly 4x his original investment in dividends DESPITE THEIR HORRID FINANCIAL TROUBLE, DECLINE AS A COMPANY, AND BANKRUPTCY. So if he put away a million bucks back then, you'd have about 3.8 million today. If GM had bought back shares, you wouldn't have diddly.
So that raises the most critical point aobut share buybacks: are you 100,000% sure that the company buying back the shares is going to still be worth something far enough into the future to justify a higher share price at some future date?
Buybacks are only as valuable as the people handling them. In a great economy a company mamkes a big profit and announces a monster buyback. A recession then hits and the sahre price tanks and the company then has no cash left to buy shares back. In some cases, like GE, they have actually bought shares back at market tops and issued them later with shares down about 50%. Thats really not good use of shareholder money. With a dividend we get to decide what/when/where to reinvest it. Thats worth something. BECAUSE COMPANIES ARE MORE FLUSH WITH CASH DURING GOOD TIMES, WHICH CAN TEND TO LINE UP WITH BULL MARKET PEAKS, BUYBACKS MAY HAVE A BIT OF A "BUY HIGH, SELL LOW" MOJO, WHICH IS NOT GOOD.
Now the questions:
-do any of you have an opinion on share buybacks -vs-dividends?
-does anybody know of historical "buyback info", i.e., some way to look at historical buyback of shares on say the S&P as a % of market cap? The way we can find historical dividend payout data? (here is the dividend data)
-does anybody know of a list of companies that buy back regularly and how much? as in where could I lump together this data on my own?
-does anybody have any data or feeling or opinion on whether the market values companies that buy back shares more generously than it does dividend paying companies?
-are buybacks more common today (with many companies doing it if not outright eschewing dividends altogether 100% in favor of buybacks, dell and csco come to mind) than they were 20-30 years ago?
gun to my head, i'd pick dividends over buybacks because A) I kind of need some income and B) I trust my own ability to reinvest over some companies management and C) I have no data on long term effects of buybacks.
thanks
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