The Con Keeps Rolling On: The Share Buyback Edition

As Comrade Driftglass likes to say, “There is a club and you’re not in it.” From the NY Times comes this heart-warming tale of how CEOs are using their companies’ gargantuan cash reserves (cash holdings by corporations are at a record high) to increase their own ‘incentive’ pay, while laying off workers:

What is more, share buybacks have not fulfilled their stated purpose of rewarding investors over the last decade, experts say. “It’s a symptom of a deeper problem, which is a lack of investment in the long term,” said William W. George, a Harvard Business School professor and former chief executive of Medtronic, a medical technology company. “If we’re not investing in research, innovation and entrepreneurship, we’re going to be a slow-growth country for a decade.”

…“It’s an extraordinarily unimaginative way to use money,” said Robert Reich, a former secretary of labor under President Clinton who now teaches public policy at the University of California, Berkeley. After diving in the wake of the financial crisis, buybacks have made a remarkable comeback in recent years, with $445 billion authorized this year, the most since 2007, when repurchases peaked at $914 billion.

But spending on capital investments like new plants and infrastructure has stagnated more broadly in corporate America, confounding efforts by the Obama administration to spur economic growth. Capital expenditures by companies on the Standard & Poor’s 500-stock index are expected to total $546 billion in 2011, down from $560 billion in 2008, according to data compiled by Thomson Reuters Eikon.

Admittedly, while we suffer under the delusion of fiscal austerity and refuse to use the government as spender of last resort, there might not be so many opportunities (although keeping a trained workforce for when the economy rebounds would be a good thing…). But this is the parasitical part (boldface mine):

The principle behind buybacks is simple. With fewer shares in circulation, earnings per share can rise smartly even if the company’s underlying growth is lackluster. In many cases, like that of the medical device maker Zimmer Holdings, executives are able to meet goals for profit growth and earn bigger bonuses despite poor stock performance.

“It’s clear there’s a conflict of interest,” said Charles M. Elson, director of the John L. Weinberg Center for Corporate Governance at the University of Delaware. “Unless earnings per share are adjusted to reflect the buyback, then to base a bonus on raw earnings per share is problematic. It doesn’t purely reflect performance.”

In addition, executives, who are often large shareholders, stand to benefit from even a small, short-term jump in stock prices….

Last month, the first layoffs began at Zimmer’s plant in Statesville, N.C., which is due to shut early next year. The company made splints and tourniquets there for more than three decades. For the sewing machine operators and the rest of the 124 workers at the plant, it is bad news, but it is a different story for Zimmer’s top executives.

Powered by huge stock buybacks — the company bought $500 million worth of its own shares last year, more than twice what it spent on research and development — Zimmer posted earnings growth of 10 percent a share, even though operating income and revenue grew by less than 5 percent in 2010.

That helped its senior management, including the chief executive, David C. Dvorak, collect millions in cash and stock incentive payments by meeting earnings-per-share goals. For example, 50 percent of Mr. Dvorak’s $1.03 million cash bonus was tied to achieving per-share earnings of $4.28 in 2010. The company earned $4.33, but without the share repurchases the company would have made $4 to $4.10 a share.

Investors have not rewarded the strategy, however: Zimmer’s shares have dropped 32 percent in the last five years….

Firing workers even though you’re not losing money? Check.

Maximizing short-term profits at the expense of long term growth? Check.

Gaming the system so as to extract as much wealth from the company as possible? Check.

But our Galtian Overlords are stimulating the economy and maximizing shareholder value, right? Not so much:

Over the last decade, in fact, companies that spent the most on repurchases had a total shareholder return of 37 percent versus 127 percent for companies that spent the least, according to research by Gregory V. Milano, chief executive of Fortuna Advisors, which consults with companies on how to raise their share price over the long term.

Here’s why:

In the cases of Pfizer and Zimmer, analysts say the rush to buy back shares crimped development of new products, a prime reason that both companies are experiencing slow revenue growth.

This is not productive economic activity: this is looting. Nothing higher marginal tax and capital gains taxes wouldn’t help penalize–and these fuckers who are laying people off and running companies into the ground should be penalized. The Krugman:

…if you look at who really makes up the 0.1 percent, it’s hard to avoid the conclusion that, by and large, the members of the super-elite are overpaid, not underpaid, for what they do.

For who are the 0.1 percent? Very few of them are Steve Jobs-type innovators; most of them are corporate bigwigs and financial wheeler-dealers. One recent analysis found that 43 percent of the super-elite are executives at nonfinancial companies, 18 percent are in finance and another 12 percent are lawyers or in real estate. And these are not, to put it mildly, professions in which there is a clear relationship between someone’s income and his economic contribution.

Executive pay, which has skyrocketed over the past generation, is famously set by boards of directors appointed by the very people whose pay they determine; poorly performing C.E.O.’s still get lavish paychecks, and even failed and fired executives often receive millions as they go out the door.

Meanwhile, the economic crisis showed that much of the apparent value created by modern finance was a mirage.

Remember, the marginal rate at the end of a pitchfork has historically been around 100 percent…

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2 Responses to The Con Keeps Rolling On: The Share Buyback Edition

  1. armchairdeductions – Author, erstwhile consultant, patron saint of the impecunious, and adult survivor of Cluster B matriarchal mayhem.
    John Danley says:

    Prestidigitation doth prevail.

  2. Min says:

    “Admittedly, while we suffer under the delusion of fiscal austerity and refuse to use the government as spender of last resort, there might not be so many opportunities.”

    What goes around, comes around. That’s true of money. The trouble is, if you are the only one casting your bread upon the waters, you are unlikely to see it return. Most people (or corporations) would need to be spreading money around for us to see a general return. Spending creates opportunities, but only if it is enough spending, and broad enough spending. The risk is too great for individuals, and even corporations, if they are a small part of the larger economy. That is why the obvious solution is gov’t spending. The gov’t does not need to generate a return, and it has plenty of money, or it can create it. Gov’t spending would create opportunities. This is not rocket science, folks.

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