Why Schumer and Sanders Are Wrong on Buybacks
from Geo-Graphics

Why Schumer and Sanders Are Wrong on Buybacks

   
Why Schumer and Sanders Are Wrong on Buybacks

In a widely discussed New York Times op-ed, Senators Chuck Schumer and Bernie Sanders excoriated share buybacks as “corporate self-indulgence,” diverting profits away from investment and worker compensation. Is this true?

Logically, there is no basis for believing that a firm prevented from buying back its stock will, in consequence, increase investment or compensation. If it can’t find other ways to return excess cash to its owners, it can always park it in, say, Treasuries. More importantly, other companies do need cash for equipment, R&D, attracting workers, and the like. And it makes sense for investors to re-allocate funds from companies that don’t need it to those that do.

More on:

United States

Financial Markets

Corporate Governance

Economics

So if buybacks are happening for sound economic reasons, we would expect to see them at firms whose return on capital is falling—that is, companies with deteriorating investment opportunities. Is this the case?

Take a look at the left-hand graphic above, which plots the growth in buyback activity between the first halves of 2017 and 2018 and the change in return on capital relative to the post-crisis (post-2010) average. The relationship is as we would expect. Firms that experience a deterioration in return on capital boost buybacks, which is a logical way to return underperforming cash to investors. And, as expected, the sector in which buybacks increased the most—Information Technology (IT)—is also the sector that experienced the biggest decline in return on capital.

Now look at the right-hand graphic. This one shows that the three sectors experiencing the largest decline in return on capital—IT, Health Care, and Energy—account for nearly 80 percent of the rise in buyback activity in the first half of last year.

In short, Schumer and Sanders have this wrong. The data show clearly that buybacks are being undertaken overwhelmingly by companies that should be returning cash to investors—companies that don’t have good uses for it. That cash is not disappearing into the vaults of billionaires, but is being reinvested in firms that do have good uses for it—like capital investment and worker retention.

And isn’t that what Schumer and Sanders say they want?

More on:

United States

Financial Markets

Corporate Governance

Economics

Creative Commons
Creative Commons: Some rights reserved.
Close
This work is licensed under Creative Commons Attribution-NonCommercial-NoDerivatives 4.0 International (CC BY-NC-ND 4.0) License.
View License Detail