Buybacks or repurchase programs refer to when public traded companies buy their own shares from shareholders. This reduces the amount of outstanding shares in the market and alters the capital structure and financial ratios. Buyback programs are currently a common proposal in General Shareholders’ Meetings. As the IRRC Institute published in its August 2016 report: “In recent years, Standard and Poor’s 500 companies have repurchased their shares at a remarkable rate. S&P 500 companies acquired $166.3 billion of their own shares in the first quarter of 2016, more than in any other quarter since the financial crisis. In each of the last nine quarters, at least 370 S&P 500 companies repurchased shares, and over the last three years, S&P 500 companies spent over $1.5 trillion on buybacks.”
One of the most common criticisms of buyback programs are that they lead to large, unfair pay packages for senior managers, as most of these packages are driven by stock performance, and buybacks mean higher demand on the market.
In this sense, shareholders ought to supervise that companies are aware of the relationship between buyback programs and compensation, and that they make deliberate, informed choices to ensure that they reward executives for desired behaviour rather than for financial manipulation of share prices. According to the IRRC Institute, “Investor and public concerns about high rewards for near-term share price growth are primarily about the risk that these incentives pose to long-term value creation. Most directors think that their companies are focused on long-term growth and that their incentive programs reward executives accordingly”.
However, some studies like the one published by Hvass-Lab, find that “share buybacks have an unpredictable effect on the share price”. Also Bloomberg published recently (August 2016) the fact that “the influence of corporate buybacks on share performance has shown signs of waning. Since peaking in February 2015, an S&P 500 index of companies repurchasing the most shares has lost 5.6 percent, compared with a 1.4 percent gain in the equal-weight index of the benchmark gauge.”
The non-causality relationship between buybacks and stock share rises should diminish shareholders’ fear of repurchasing programs causing agency risks. However, it triggers a second fear and common criticism of buyback programs: they jeopardize growth. Buyback programs are funded mainly by cash or, in some cases, debt. According to Hvass Lab, share buybacks should be valued relative to alternative investments, acquisitions, restructurings, etc. to assess which one is the most valuable to long-term shareholders. According to Professor William Lazonicks in his in-depth article available in HBR, there are some cases where buyback programs could be justified, but in many others its use could be negative to the long-term company value.
In conclusion, buybacks can only be evaluated effectively if a company is explicit about the reason or reasons for the repurchase program. Success depends on the purpose of the buyback. In this sense, we should expect to have a good reason supported by the management and sufficient information that enable us to analyse it.