From time to time, many companies engage in "stock buybacks" in order to increase the value of their stock, and I got to thinking about this practice yesterday.
More or less, you take money in quarter 1, buy back the stock, and then the money you spent in quarter 1 gets taken off profits in quarter 2. You reduce the number of shares and increase the profit/share in quarter 1, but then take the expense later, decreasing your profit/share at that time. Of course, you ignore that expense in your pro forma accounting sheets, falsely telling investors that your P/E is actually quite healthy.
One wonders how many other activities of corporate finance offices are shell games, and how much more prosperous we might be if we didn't play them.
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7 comments:
Not to be a contrarian, but:
Way back when (don't ask!) I majored in finance & economics this was my understanding:
The primary rationale behind a stock-buyback is that management believes the stock is undervalued and that it is in the best interest of the stockholders.
Investopedia article
Superannuated-guy
How about internal cost shifting within cost centers (fund accounting) ?
There are other things, but I am at a loss to remember them now..
I have always thought that if a company is eating their own product it's probably not poison.
Jim: :^).
I understand what all of you are saying, but the reality is that if I take a company's working capital to reduce the number of shares by 2%, I've simultaneously reduced the value of the company's assets by that same proportion. From an accounting perspective, it's a wash at best. Yes, a temporary bump to the stock price, and certain metrics look better, but it's still all smoke & mirrors. No real change has been made, except you've gotten rid of a portion of your working capital.
Another way of describing it; by using reserves to buy its own stock and destroy it instead of investing in the business, it says some not very flattering things about the executives' ability to find ways to expand the business.
But they're giving the $s to people who are smart enough to realize that a buy-back is a sign of sickness or stagnation.
Its a transfer of wealth from the dumb. Typically things like this are called "lotteries." They keep my taxes lower than the pols would otherwise be seeking.
Hmmm....might be true.
Actually, though, it turns out that lotteries don't help state revenues when all is said and done. The cost of dealing with the social costs of gambling--divorce, crime, etc..--outweighs the revenues of any lottery.
Yeah, but the dumb will do those things anyway...
This just in: AMAZON considering a stock buy-back. Share price up 3% in early trading!
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