In Yahoo, Another Example of the Buyback Mirage

New York Times ^ | 25 March 2015 | Gretchen Morgenson

[Lorianne]

It is one of the great investment conundrums of our time: Why do so many stockholders cheer when a company announces that it’s buying back shares?

Stated simply, repurchase programs can be hazardous to a company’s long-term financial health and often signal a management that has run out of better ways to invest in the business.

And yet investors love them.

Not all stock repurchases are bad, of course. But given the enormous popularity of buybacks nowadays, those that are harmful probably outnumber the beneficial.

Those who run companies like buybacks because they make their earnings look better on a per-share basis. When fewer shares are outstanding, each one technically earns more.

But a company’s overall profit growth is unaffected by share buybacks. And comparing increases in earnings per share with real profit growth reveals the impact that buybacks have on that particular measure. Call it the buyback mirage.

Consider Yahoo. The company bought back shares worth $6.6 billion from 2008 to 2014, according to Robert L. Colby, a retired investment professional and developer of Corequity, an equity valuation service used by institutional investors. These purchases helped increase Yahoo’s earnings per share about 16 percent annually, on average.

But a good bit of that performance was the buyback mirage. Growth in Yahoo’s overall net profits came in at about 11 percent annually.

Given these figures, Mr. Colby reckoned that Yahoo, if it had invested that same amount of money in its operations, would have had to generate only a 3.2 percent after-tax return to produce overall net profit growth of 16 percent annually over those years.

[reed13k]

Share holders should only cheer buybacks if the shares are retired and the remaining share holders actually benefit through increased ownership. Otherwise, it’s smoke and mirror with numbers.

[DoughtyOne]