Stock Buybacks: Good or Bad?

Stock Buybacks - Good or Bad?

Stock buybacks have been a debate for some time now. With outrageous company executive and CEO compensation tied to stock options and pleasing shareholders, the practice of buying back a company’s stock has become commonplace. This is all while American workers are consistently outsourced in favor of cheaper labor and employer-provided benefits are steadily reduced.

The current Coronavirus pandemic is only adding to the argument of stock buybacks being either right or wrong when it comes to taking care of American workers. This should not come as a surprise as numerous companies are seeking large public bailouts while the economy is suffering one of the largest downturns since the great depression. The money so many large companies are seeking for assistance comes after a surge in the practice of stock buybacks in recent years.

Discussions of stock buybacks have had arguments on both sides for it being either good or bad. Some economists and financial professionals contend companies that buy back their stock helps the economy. Other people are not in the same agreement. Even some politicians on Capitol Hill and in the White House are now recognizing that stock buybacks might not be as good for American workers as they are sometimes portrayed.

My view on stock buybacks is they are not necessarily a terrible thing. However, what is wrong with the practice of stock buybacks is related to how executive compensation and shareholder profits are structured. Stock buybacks are not fundamentally a bad practice all the time, but the way the system is set up it promotes buybacks when they might not always be in the best interest of a company’s workers.

What Are Stock Buybacks?

First, it’s important to explain what stock buybacks are if you are not familiar with them.

Stock buybacks happen when a company buys back its shares in the market. A company does this with cash it has accumulated and it is a way for that company to re-invest. The shares purchased back by the company reduces the number of outstanding shares in the market. With fewer shares of a company in the market, the ownership of investors goes up. Thus, the price of the stock generally rises.

One of the roles of a CEO for a public company is to increase shareholder profits and stock buybacks will typically increase shareholder value. This is one reason stock buybacks are often used when companies have excess cash accumulated. Companies looking to reward shareholders with something other than a dividend will sometimes also use a buyback.

Why Are Stock Buybacks Bad?

Although there are some proponents of stock buybacks, I am not one of them and there are several reasons why. As I mentioned, there is nothing wrong with a company buying back its stock. For public companies that have shareholders, it is important to provide a return and stock buybacks can be a quick way to increase a stock’s share price.

Although stock buybacks can be good, there are more disadvantages to doing it too often and this has been part of the problem.

Stock Buyback Frequency Is an Issue

The issue with stock buybacks is not that they happen, but to the frequency, they occur. Buybacks were last estimated to hit a record 1 trillion dollars. All of this has largely been due to record corporate profits before the pandemic due to the Tax Cuts and Jobs Act of 2017. Companies in the S&P 500 did buybacks totaling more than 800 billion dollars following the tax cuts.

Part of the drawback to excessive stock repurchases is companies then do not have the liquidity that can help when there is an economic downturn. The frequency of stock buybacks before the pandemic there just seems to be a real issue with companies now looking for help to bail them out. This is following these same companies buying back a lot of their shares on the open market to return money to their shareholders and enrich company executives through stock options.

Bailing out companies that decided to buy back their stock instead of investing back into their business and saving money for the unknown is a problem. Executives and shareholders were rewarded through buybacks. Now, their everyday workers are experiencing cutbacks and layoffs as a result of not having accumulated the assets to survive during the economic downturn.

Executive Compensation

Probably one of the biggest issues with stock buybacks is how executive compensation is structured. The problem is with the stock option and bonus structures they receive that incentivize them to raise the stock price. With stock buybacks often improving a company’s share price, a buyback can be used to quickly increase a stock’s price. Thus, a CEO with stock options can cash in at a good price.

CEO compensation based only on salary is not usually that much. Some companies for example might only pay their CEO $1 a year or as much as $1 million. However, the CEO will then get stock options that potentially could be worth millions of dollars. In addition, the CEO could have a bonus structure that is tied to increasing a company’s profits and share price. The result is a real emphasis on increasing the share price, which a stock buyback can often do.

Just look at an example. Let’s say John CEO is paid $100,000 a year in salary but is given a large number of stock options to purchase the company stock in the future at today’s price. If the stock is say $4 today and John gets these options, when the stock is $20 in a year, he can cash his options in for a profit of $16 per share. Now add this to the thousands or hundreds of thousands in the number of stock options John receives.

John CEO may also have a bonus structure based on growth in earnings for the company. The fastest way to often raise the stock price of a company and increase earnings is through buying back company stock. See how John CEO would want to do this and not really care much about the people that work for him?

Executives and Shareholders Should Be Compensated

People should be compensated for their work and investments. However, now with CEO compensation being at around 300:1 compared to an everyday employee at the same company there is a problem. Everyday American workers are being hurt in the pursuit of profit. Shareholders are also many times being damaged in the long run as a company dangerously does not invest back in itself.

The investors and CEO of a company should be financially rewarded, but so should all the additional employees at that same company who contribute to its overall success.

Everyday American Workers Are Hurt

I know some readers might argue how stock buybacks benefit America, but overall this could only be further from the truth. There are several reasons why there is no contest between buybacks benefiting workers or not. They simply don’t. You only need to look at the environment in corporate America. This is one that has seen an increasing number of workers being outsourced, scaled back, and paid lower wages. Also, there has been a steady decrease in employer-provided benefits for some time now.

Stock Buybacks – No Investment Back in the People

With a stock buyback there is simply no investment made back into a company for things like research and development. This only restricts future growth and the potential for hiring more employees in the future.

Buybacks also do not invest back into the people that help to make a company successful. The money spent buying back shares of stock is not available for higher wages or better benefits. The capital spent on buybacks is no longer available for improving employee healthcare, education, or retirement savings.

Stock buybacks do not invest in the people that make a company successful.

There is a reason employer-provided pensions are almost now extinct and replaced by lower-cost 401k plans. Health care benefits are also more expensive as employers are covering less and choosing the option for higher deductible plans. Money used for stock buybacks is not invested back into people. They are used to return a profit to shareholders and line the pockets of company executives. 

As companies have been chasing the lowest price to compete and improve their bottom line, the cost of American jobs for overseas manufacturing and inferior products has also been adding to the profit and greed of corporate America. This is in addition to record numbers of buybacks. Stock buybacks are simply money put in the pocket of people that likely do not need it as much compared to the numerous employees of those businesses that live paycheck to paycheck. The same workers that contribute to the overall success of a company often with no job security. 

Stock buybacks do not invest in people. This is the primary problem and it is particularly the case when there is a large frequency of a company purchasing back their own stock. 

Government, Wall Street and Greed

The issues with stock buybacks have received much more exposure recently with the pandemic the world is experiencing. This is partly due to the government money many American businesses are going to receive as a result of the Coronavirus. Much of the conversation has been the issue of government financial assistance for businesses and the possibility of them turning around and doing stock buybacks. Honestly, it wouldn’t surprise me. Even with rules in place for no stock buybacks, the likelihood of some companies finding a loophole is good.

If history tells us anything, as seen in the economic downturn in 2008, companies are always looking for ways to take advantage of government financial assistance. This is even after greatly rewarding their company executives and shareholders.

Capitol Hill and Buybacks

I think it’s good to see some people in Washington taking a closer look at the issue of stock buybacks, especially when it comes to a company that takes government assistance during the pandemic. However, they also need to take a closer look at the same people that work with them each day.

Politicians calling out the potential issue with stock buybacks and companies taking advantage of government financial assistance need to take care of things at home as well. Don’t complain about CEO’s and shareholders getting rich while co-workers in the Senate or House trade stock on non-public information related to the pandemic. I even wrote an article on the subject, Profiting Politicians and Lawmakers: Insider Trading and Politics.

Legislators do need to ensure companies do not take advantage of government financial assistance due to the pandemic, but they also need to make certain their co-workers are held responsible for their actions. Doing this will send a message that people in power are not treated differently than everyone else. Companies that do receive assistance for the economic downturn due to the Corona Virus should not be able to turn around and do stock buybacks. If they do, the money they received should be given back.

If a company has excess money to purchase shares of their company’s stock in the open market even 6 months or a year from now, then they should give back any money they received from the government. This is particularly the case if executives’ cash in stock options following a buyback.

Wall Street

Stock buybacks are not only enriching CEOs and high executives at companies, but those on the inside information buyback activity can also make a lot of money. Insider trading is technically an illegal practice. Yet, don’t think it doesn’t happen every day. The problem with people trading stock based on non-public information is it can be difficult to prove.

Those on the inside of stock buyback activity are also making a lot of money.

Not only have politicians been illegally trading on the information, but there are plenty of people on Wall Street that make it a habit. These people do it every chance they get. Being provided information on a buyback prior to the public knowing allows some of the fat cats on Wall Street to make a lot of money before the rest of the market has a chance to correct from the result of a company buying back their stock.

Greed and Stock Buybacks

The high frequency of stock buybacks is just pure greed when looked at closely. Financially a company that spends a lot of their money on buybacks creates an issue of liquidity for that business. Buybacks primarily are for the benefit of wealthy shareholders and company executives to cash in.

American workers employed with a company that does not invest back into that business and the people that make it successful can only clearly be an issue. Stock buybacks hurt a company’s productivity, innovation, and often long-term growth. They also can damage that company’s employee morale, dedication, and loyalty by creating a workplace with low stagnant wages and the elimination or deduction of employer-provided benefits. Money that is spent on stock buybacks is simply not capital being reinvested in the future. The everyday workers are the people who often end up with no future.

People should be paid for investing in a company or overseeing that business. However, when profits are put above the future of the people that make a successful business to line the pockets of a few there is unmistakably a problem.

Conclusion

Stock buybacks can be okay, but the issue with them today is the frequency they are used. Corporate profits and executive compensation have been on the rise for several years. This has been occurring at the same time most American workers have experienced lower wages and the elimination or deduction of employer-provided benefits.

I know some people will argue the positives with stock buybacks. But the frequency in which they have been used in combination with the state of most American workers can only be an issue. Enriching wealthy investors and corporate CEOs while American workers have been traded for inexpensive cheap labor just isn’t right.

There can be positives and negatives of stock buybacks. The truth is the negatives have just outweighed much of the positive side for some time now. Any stock buybacks in the near future are only a larger concern while millions of Americans are having a challenging time due to the pandemic.

Washington needs to start listening and changes need to be made in America for the future. These modifications should start by holding companies accountable for their actions. A company that receives any government financial assistance resulting from the pandemic should not be able to do any stock buybacks for some time.

Americans need to start looking out for Americans. This includes companies that claim to be American. Investments need to be made in the American worker and infrastructure at home. If companies are not willing to do this, they should be held accountable and pay their fair share in taxes.

It’s time for representatives in Washington to start doing their jobs. If they don’t, it is time the American people start making a change by their right to vote.

Stock buybacks do have their place, but that situation is not certainly right now in a down economy and they should never be done at the frequency seen in the past. It’s time to start investing in America again and reaching that goal can’t include a trillion dollars or more in stock buybacks.  

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