NEW YORK — When companies buy their own shares, they usually tout it as a benefit to shareholders.
The logic behind that is simple. If companies are buying, they must believe the share price is going to rise. Their confidence influences investors to bid the shares higher. Investors get higher returns and own more of the company because there are fewer shares circulating. And the company can later reissue shares at a higher price. Everyone ends up happy.
In fact, there’s little evidence that buybacks increase share prices over the long term. Companies tend to buy when they believe their stock is undervalued. But while there might be an initial gain when a buyback is announced, the share price usually declines in the following years. That’s because the underlying reasons the stock was depressed haven’t gone away.
Repurchases also don’t lower share count for very long because companies keep reissuing stock to pay employees or make acquisitions.
“Media and analysts talk about buybacks like they’re a great thing,” said James Early, a senior analyst at Motley Fool. “But they’re just as often a raw deal for shareholders.”
Companies usually buy their stock like most investors, on the open market. Buybacks are on the rise this year after slowing during the financial crisis. Best Buy Co. Inc., Wal-Mart Stores Inc., IBM Corp. and JPMorgan Chase & Co. were among the 447 companies that announced $285 billion worth of buybacks this year through June 24, according to research firm Birinyi Associates.
That’s more than seven times the $38 billion in the comparable period in 2009, when stock prices were depressed, but still below the $404 billion announced in the same stretch in 2007.
Why the rush to repurchase? Many recession-weary companies are loath to make long-term commitments like hiring new employees or expanding operations or product lines. Companies are generating significant cash flow because they’ve cut costs. But they aren’t seeing enough of an increase in demand for their goods or services to justify expansion.
Buybacks are one easy way for companies to spend the cash they’ve hoarded, analysts say.
