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Why are European Companies allergic to buying back stock?


LongHaul
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Why are European Companies allergic to buying back stock? 

 

A lot of U.S. companies buy back stock as a capital allocation option.  It seems like European companies hate buybacks and rarely engage in them.  Why is this?  A European perspective would be helpful.

 

 

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Couldn't the converse question be asked:

 

"Why are American companies allergic to paying shareholders dividends.  European companies mostly pay dividends and have generous policies in place, why don't American companies?"

 

I believe the answer is it's cultural.  Would you rather the management buy back shares at almost any value (what happens in the US), or the company pay out dividends and allow investors to repurchase shares if they wish?

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Couldn't the converse question be asked:

 

"Why are American companies allergic to paying shareholders dividends.  European companies mostly pay dividends and have generous policies in place, why don't American companies?"

 

I believe the answer is it's cultural.  Would you rather the management buy back shares at almost any value (what happens in the US), or the company pay out dividends and allow investors to repurchase shares if they wish?

 

Agreed. Also, it might be that US executives get more compensation in the form of options than their European colleagues and thus have an incentive to get their stock price higher. That's just guesswork on my part though.

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Here bigger shareholders don't pay taxes on dividends. There are also very good account options, with almost no limitations on funds, for private investors that take away dividend taxes. Also, yes my impression is that stock options are a bit more common in the US, but I think we are inching closer in that area. And buybacks haven't been allowed for as long as they have been in the US so we may still have some catch-up to do there.

 

There are other possible factors too. In Denmark for example the number of shares outstanding is generally very low compared to here in Sweden. That will of course have an effect on the ability and willingness to repurchase shares and it seems to me that Danish buyback programmes are much more uncommon and if they have treasury shares they are more likely to sell them or use them as currency. 

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Its mostly tax related.  The US could go along way to getting rid of this as an excessive practice by fixing its tax code.  It used to be that dividend payout ratios were much higher in the US.  It was before my time when the US started double taxing dividends. 

 

I personally dont like buybacks.  I would rather have the cash and the choice.  A number of Cdn companies have DRIPS which is as good as a buyback under our tax code.  I personally dont bother - it used to matter when trades where $49.00 each but at $7.00 per trade, pre tax, it doesn't have much effect.  If I think a stock still has value In it I will buy more on my own volition with the dividends - nice to have a choice.

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Its mostly tax related.  The US could go along way to getting rid of this as an excessive practice by fixing its tax code.  It used to be that dividend payout ratios were much higher in the US.  It was before my time when the US started double taxing dividends. 

 

It's not just a double tax on dividends, but basically on all corporate earnings (unless you die before the shares are sold, in which case you avoid the double-tax here in the US).  The alternative to paying a dividend is retaining the earnings, but you'll still get a second tax on those earnings when you sell the shares (retained earnings push up the share price so it winds up as a capital gain... which is thus double-taxed earnings the same as the dividend).

 

Getting rid of the double taxation on corporate earnings would require one of the following:

 

a) eliminating tax on dividends and capital gains.

b) eliminating the corporate tax

c) allowing shareholders to take a tax credit for corporate taxes paid (similar to Australia's dividend franking system, but applied to capital gains as well to avoid double taxation when earnings were retained instead of paid out).

 

I think it will be a long time before we get rid of the double-taxation of corporate earnings.

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I believe the answer is it's cultural.  Would you rather the management buy back shares at almost any value (what happens in the US), or the company pay out dividends and allow investors to repurchase shares if they wish?

 

But it's a very good culture based on sound reason and logic.

 

The tax bill is lower if you go with the first option.

 

The reason is that 100% of the dividend is taxed.  So the dividend is the worse option.

 

Only a portion of the buyback (the actual capital gain) is taxed when shares are sold -- that's because your cost basis is exempt from taxation.

 

It's just a mathematical fact.

 

Example:

You hold a million shares that are going to pay a 5 cent dividend.  That's a $50,000 dividend that will be fully taxed.

Compare that to the company that repurchases $50,000 worth of shares on your behalf.  All you have to do is sell $50,000 worth of your stock and you get the "dividend" cash in your pocket.  Except you only have to pay tax on the gain, if you have any gain at all!

 

Hell, you might even be holding the shares for a loss and be able to offset your tax bill elsewhere!

 

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I am a bit tired of this double-tax nonsense.  A C corp is a completely separate entity.  You are entirely protected from its misdeeds in any way beyond the initial value of your investment.  And this should cost nothing?  The courts have ruled that corporations are basically people in most legal ways. (There are of course exceptions for very closely held companies, but the legal veil is also easier to pierce in these cases).

 

An argument that this is double-taxing requires you, in the end, to believe that all income taxes are wrong, since any passage of money from one entity to another counts as income to someone.  Some people do believe this, but they are too short-sighted to see the consequences to society—or they just don’t care, because they believe they will be fine.  Create enough societal instability and poof, all that money you have, is absoutely worthless.

 

Anyone can come up with dozens of anecdotes of how things have gone wrong, and while stories have a great deal of power due to the way the human brain works, that doesn’t tell reality.  Only statistics do, and they tell a story of how we need to spend money on society in order to have a good one.

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Guest Schwab711

I don't think it makes sense to equate the value of a US corporation's legal privileges to double taxation since it assumes this value is worth less as taxes decrease when really the opposite is true. Earnings are taxed at close to 60% when you consider small companies pay 40% taxes before you pay your share. It just doesn't fit with what you propose.

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The corporation's legal privileges...

 

Think about how many companies would never be started if there were not legal protections.  Society gets much in return for these legal protections.  Jobs, innovations, services.

 

Society is definitely getting a positive return here. 

 

Put it this way... it's not like society is in a position to revoke a C corp's legal protections if company owners collectively all refused to pay the tax.  That would be a lose-lose situation all around.

 

Society is getting paid a double-tax is more or less gratuitous.  I'd be in favor of taxing all income the same... which would mean nixing the double-tax so we are all taxed the same.  And that would mean real income, so stripping out the inflation component from capital gains and fixed income.  Equal taxation of real income -- that would be fair.  There is also the issue that 1031 exchanges should be applied to all assets, not just real estate -- shifting your invested equity from one investment to the next clearly isn't income... but I believe one could easily call "income" any equity that is not reinvested.

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