Financial-Budget

Share Buybacks: A Good Alternative?

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Published by Bob Loewens

Often I have questioned whether it is best for a company to grow earnings per share (EPS) through stock repurchase programs or from re-investing to support higher demand for their products. I have gone so far as to wonder if less emphasis should be placed on buyback driven EPS increases. However, I have come to realize that these efforts can be very attractive to long term results.

Given that two primary factors of stock price appreciation are growth in EPS and the price/earnings (P/E) multiple placed on those earnings; as long as per share profits are growing shareholders should see a benefit. While it could be argued that allocating a disproportionately large share of capital to buybacks means that there aren’t any growth opportunities left in the business, this is usually better than the alternative of allowing unnecessarily large piles of cash to accumulate on the balance sheet as idle dollars are an unproductive asset. Further investigation would then be needed to determine if there is a lack of growth opportunities and if this is a short term phenomenon or a structural change in the marketplace.

If the current lack of growth opportunities is due to cyclical factors, long term holders of companies with attractive repurchase programs should be well rewarded once profits find their way back to an upward path. With a well balanced approach to buybacks, that would prevent the need to issue new shares to support a return to growth, these higher earnings will now be allocated over a smaller number of shares leading to incremental growth in EPS.

While these programs are no guarantee of a higher share price, a recent Barron’s article has shown a handful of companies with these efforts in place have seen their stock price grow above the rate of the S&P over a 12 month timeframe.

In summary, growth due to share repurchases can be very attractive given the alternatives and can provide even better results in the long term. However, every company is different and requires its own assessment of the pros and cons of these programs and of its future potential.

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