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Don't Panic: Corporations Will Return Capital To Shareholders


Parsad
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I'm watching all these analysts and reporters going nuts over the credit rating downgrade and the stock market correction.  Yet, what they don't realize at all is that the dynamics of American corporations are completely different than 3 years ago.  That downturn, corporations were leveraged and had little cash on the books.  Corporations in this correction are very liquid and have the ability to buy back enormous amounts of their shares. 

 

You may see liquid corporations retire 5, 10, 20% of their outstanding shares if the prices continue to dip.  For many, even if they don't dip any further, shareholders would be well-served for the company to buy back significant amounts of shares.  Especially for businesses that are liquid and are trading at large discounts to net asset value.  Think about a company like Winn-Dixie...and this is just one of many examples out there right now. 

 

What does the company benefit by spending on capital expenses, rather than buying back their shares presently?  The majority of their stores have been remodelled in the last couple of years.  They have excellent free cash flows, but much of that goes back to basic maintenance of existing stores, or building whole new prototype stores.  Why spend the money on these prototype stores, which will only improve same store sales by 2-3% annually, when you can buy back your shares at a 50% discount to book?  It makes zero sense.

 

You will see executives...be it at their own behest, or the eventual demand of shareholders...buy back their stock!  Cheers! 

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I agree that things are quite different than 2008 & 2009. I do not expect financials (i.e. WFC) to fall as much. Many of the large cap tech stocks we have discussed (i.e. MSFT) should hold up well. Resource plays/cyclicals likely will bear the brunt should the economy deteriorate further.

 

Should panic hit... everything will likely get hit equally. That is when some real money will be made. I am thinking I need to get some low bids entered on the stuff I really like as it is too easy to miss the rapid downdrafts (and rebounds). 

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Warren Buffett Secrets

 

When a company should buy back shares

 

According to Warren Buffett, a company can add value to its shares by buying some of them back:

 

a.  where it has surplus funds;

b.  where it can buy them back at a price below intrinsic value.

 

http://www.buffettsecrets.com/share-buy-backs.htm

 

 

I don't mind buybacks at any price given my capital gains rate is normally lower than my dividend rate, but I can see how Buffett would hate to take a capital gain instead of a dividend when his dividend tax rate at Berkshire is far lower (sometimes only 5%!!!) than his capital gains tax rate which is 35% at Berkshire.

 

Hmm... 5% vs 35%?  No brainer. 

 

However, for me as an individual, if stock is trading at any level I can just sell some shares to launder my dividend tax rate into a capital gains tax rate.

 

I don't think Buffett is unaware of this.

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Warren Buffett Secrets

 

When a company should buy back shares

 

According to Warren Buffett, a company can add value to its shares by buying some of them back:

 

a.  where it has surplus funds;

b.  where it can buy them back at a price below intrinsic value.

 

http://www.buffettsecrets.com/share-buy-backs.htm

 

 

I don't mind buybacks at any price given my capital gains rate is normally lower than my dividend rate, but I can see how Buffett would hate to take a capital gain instead of a dividend when his dividend tax rate at Berkshire is far lower (sometimes only 5%!!!) than his capital gains tax rate which is 35% at Berkshire.

 

Hmm... 5% vs 35%?   No brainer.  

 

However, for me as an individual, if stock is trading at any level I can just sell some shares to launder my dividend tax rate into a capital gains tax rate.

 

I don't think Buffett is unaware of this.

 

It also depends on what kind of account you hold shares in... a personal account, Roth IRA, Traditional IRA, and many others, have very different implications. Additionally, depending on what you bought in at, and the ROIC of the corporation, and the time frame that you plan on holding shares, all play a role in if a share buy back vs a dividend will benefit you the most... Furthermore, if you are a corporation (such as BH), a hedge fund, or a personal investor, these items will effect you quite differently on net of taxes basis.

 

With that said, as a whole, corporations, as a whole (at present) doing share buy backs would probably not be a bad thing... With anything that I am invested in, I would likely not be too upset at the proposition, actually. While not holding shares in any of the companies in the sector, I am surprised that many tech companies are not buying back shares like crazy (mainly, AAPL and MSFT). I know a lot of people are saying that they are saving funds for a potential acquisition, but, what in the hell would they try to buy with all of that cash!? They could buy virtually anything that they want, and still have 10s of billions of dollars left!

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