NEW YORK CITY: Confronted with a sluggish global economy, US companies have settled on a controversial tool that rewards shareholders and executives: share buybacks.
First permitted by the US Securities and Exchange Commission in 1982, the use of share buybacks has spread rapidly over the last five years due in part to pressure from activist investors anxious for a quick payoff.
When companies buy back shares, the shares remaining on the market rise in value due the tighter supply, an immediate boon to shareholders. Executives also benefit when their compensation is tied to the share price, often through rich stock options.
But critics point out that companies spending billions of dollars of shareholder funds on buybacks means the funds are not being invested in new plants, higher salaries and other areas that boost the company and the broader economy.
Over the past two years, at least 20 percent of S&P 500 companies have trimmed their share count by at least four percent, said Howard Silverblatt, analyst at S&P Dow Jones Indices.
The net effect is to increase the companies’ earnings-per-share by at least 4 percent. But as a study by University of Chicago professors Daniel Bens, Franco Wong and Douglas Skinner, that gain “cannot be attributed to improved firm performance.”
The surge in spending on buybacks has been huge. In 2009, the 500 biggest publicly traded companies in the US spent 27.5 percent of their $500 billion in operating profits on buybacks, according to S&P Indices.
By 2015, they spent 64.7 percent of $885.3 billion in earnings on buybacks.
Apple led the way with last year putting $37 billion in buybacks, followed by Microsoft with $17.9 billion and Qualcomm with $11.6 billion.
Making that possible has been the companies’ lofty cash holdings, which stood at $1.3 trillion at the end of 2015 among the S&P 500, according to Silverblatt.
They “have to do something with their cash,” said Silverblatt.
But some also take advantage of low interest rates to borrow money to fund buybacks. Apple in February announced a debt offering of $12 billion to finance buybacks and share dividends, even as it holds more than $200 billion in cash, much of it overseas.
The market has taken a kind view of buybacks. Shares of 100 companies that undertook buybacks in 2014 outperformed competitors who used funds to build factories or hire employees, according to a study by Barclays.
And buybacks have accounted for about 21 percent of the rise of the S&P 500 since 2009, according to S&P Dow Jones Indices.