should corporate stock buybacks be banned?

This is becoming an election issue.

Elizabeth Warren, deeply suspicious of anything to do with finance, regards them as a form of stock manipulation.

Many more mainstream observers note that $7 trillion (according to the New York Times) spent on buybacks by S&P 500 companies has consumed a large chunk of their cash flow at a time when both wage growth and new investment in physical plant and equipment in the US have been paltry.  They argue, without further elaboration that might have the argument make some sense, that the latter are being caused by the former.  Therefore, they think, if only stock buybacks were eliminated, employment and wages would rise and the US would reemerge as a global manufacturing power.  I imagine the same people are saving their old calendars in case 1959 should come back.

There are instances where, in my view, stock buybacks are clearly the right thing to do.  Imagine a publicly traded company that has a profitable business that generates free cash flow, and that has no liabilities plus $1 billion in cash on the balance sheet.  Let’s say the firm’s total market capitalization is $500 million.  In this situation, which actually happened for a lot of companies in 1973, stock buybacks would accommodate shareholders who wanted to liquidate their holdings and create $2+ in value for remaining shareholders for every $1 spent.  I can’t see any reason to outlaw this.

There are also cases—IBM comes to mind–where continual buybacks make investors think that this is all the firm has left in the tank.  So though buybacks keep on generating increases in earnings per share, by shrinking the number of shares outstanding, they no longer support the stock price.  The generate selling pressure instead.  In theory, and provided management understands it can’t play with the big boys any more, the firm should liquidate and return funds to shareholders rather than to continue to destroy value.  Like that’s ever going to happen.  But investors will vote with their feet.  While maybe management conduct should be different, I can’t see how that could be legislated.

My big beef with stock buybacks is that the main purpose they serve is to disguise the gradual transfer in ownership for a company from shareholders to employees that happens in every growth company (more about this tomorrow).  This could be/ should be made clearer.

I also think managements should show more backbone when “forced” into buybacks to satisfy activist investors, in what is the 21st century equivalent of greenmail.

But the idea that barring stock buybacks will cause corporations to make massive capital investments in advanced manufacturing in a country that has a sky-high 35% corporate tax rate, a shortage of skilled labor and rules that bar a firm from bringing in needed technical and management employees from outside is loony.  It isn’t clear to me that removing legislative impediments to investment will be enough to roll back the clock and make the US a manufacturing power.  It isn’t clear, either, that we should want to return to an earlier stage of economic development.  But outlawing buybacks won’t achieve that goal.

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