Companies Share Their Cash
Investors seem to be getting louder and more insistent with demands for what's commonly perceived as a shareholder-friendly move: returning cash through dividends and stock buybacks. And more companies are answering the call.
A total of 366 S&P 500 Index companies raised their dividend in 2013, more than any year in the past decade. As shown below, more than 83% of index stocks paid a dividend in 2013 — the most since 1998, according to Standard and Poor's. In the early 1980s more than 90% of S&P 500 stocks paid dividends, though the number fell to 70% in the early 2000s.
Supplementing dividend payments are stock repurchases, which totaled $128 billion for S&P 500 companies in the September quarter, the most recent period with available data. Index companies haven't spent that much since the December 2007 quarter's $142 billion.
Some view the surge in buybacks as an indication that managers still see value in their shares. Other say buybacks are a signal that growth prospects are not bright, that companies do not have better uses for their cash. Alternatively, executives could be seeking an immediate boost in per-share profits, a metric that often figures in their compensation.Â
Like investors, companies have a poor track record for timing the market. Aggressive share-repurchase activity during the 2013 rally echoes similar behavior that occurred on the verge on the financial meltdown.
And like Narcissus, companies that fall in love with themselves risk getting stuck in one place. Massive stock buybacks can starve a company of resources to pursue long-term growth opportunities, causing operating momentum to falter. S&P 500 companies spent $445 billion on stock repurchases in the 12 months ended September, up 15%. Capital spending rose just 3% to $577 billion during that period. Considering that many stocks' valuations look stretched, investment in the business might make more sense.
Of course, execution is the key. J.P. Morgan Chase ($55; JPM), for instance, is known for its effective buyback strategy. About half of its stock repurchases since the end of 2009 occurred when shares traded below $40. The company cut back sharply on repurchases last year as shares topped $50, though legal woes may have also played a role in the decline of repurchase activity. "We don't just buy back stock regardless of price," said CEO Jamie Dimon last month. "Not that we think it's [currently] a bad price, but when it was at $33 a share or whatever, that was an extraordinarily compelling price."
Below, we review three other companies rewarding investors with disciplined buyback strategies, strong dividend growth, or both. We include in the table below a combined yield, which divides the sum of 12-month dividends paid and net share repurchases by stock-market value.
Since launching its share-repurchase program in 2006, DirecTV ($69; DTV) has spent nearly $29 billion to shrink its share count by 61%. For the 31 quarters ended September, the company paid an average price of $32 per share. In the first nine months of 2013, DirecTV spent $3.28 billion to repurchase enough shares to reduce the count by 10%, paying an average price of $57 per share. Management has targeted $4 billion in stock buybacks in 2013, entering the December quarter with $1.6 billion remaining under its current repurchase plan. In coming years, DirecTV expects capital spending to taper from 2013 levels, potentially freeing up more cash to be returned to investors.
For now, DirecTV seems content to maintain its buyback strategy and eschew a dividend. Management has frequently cited the tax advantages of repurchasing stock over paying a dividend, which exposes earnings to taxation at both the corporate and shareholder levels. Moreover, DirecTV does not appear to be overpaying for its own shares. The stock, which consistently scores in the top 10% of our Quadrix universe for Value, trades at just 12 times projected 2014 earnings.
The company will disclose more details on repurchases Feb. 20, when it posts December-quarter results. Analysts expect DirecTV to earn $1.28 per share, down 9%, on 5% revenue growth. For 2014, the consensus projects 17% growth in per-share profits on 5% higher sales. DirecTV is a Focus List Buy and a Long-Term Buy.
Qualcomm ($73; QCOM), like many other technology companies, enjoys the enviable problem of having excess cash on its hands. Its balance sheet has amassed $17.28 billion in cash, compared to just $14 million of debt. In 2013, free cash flow surged 85% to a record $6.31 billion, or 25% of sales. Looking ahead, free cash flow should represent 28% to 30% of annual sales, projected to grow by double-digits over the next five years.
Qualcomm seeks to return 75% of free cash flow to shareholders through dividends and stock buybacks. It also plans to grow the dividend at a faster rate than earnings. Management expects per-share profits to climb 13% in fiscal 2014 ending September and continue to grow by double digits through fiscal 2018.
Dilution from stock options and an inconsistent use of stock buybacks contributed to a 4% jump in Qualcomm's share count over the past three years. However, management is moving toward a consistent stock-repurchase program, pledging in November to shrink outstanding shares by 5% to 10% over the next five years. The share count declined 2% in the past year, with Qualcomm paying an average price of $66 per share. Management says it will consider adding debt in coming years to maintain its capital-allocation plans. Qualcomm is a Focus List Buy and a Long-Term Buy.
Lear ($73; LEA) pays a modest quarterly dividend, initiated in 2011 and last raised 21% to $0.17 per share in February 2013. It has been more aggressive on the stock-buyback front, reducing outstanding shares by 24% in the past three years. The activities are backstopped by a balance sheet containing $1.14 billion of cash and $1.06 billion of long-term debt; none of that debt comes due before 2018. Given the currently rich valuations of industry peers, management seems disinclined to make a big strategic acquisition. But it will consider smaller deals, along the lines of its $243 million purchase of Guilford Mills, a fabric manufacturer for the auto industry, in 2012.
In the December quarter, Lear earned $1.55 per share excluding special items, up 5% though $0.04 below the consensus. Revenue exceeded analysts' projections, surging 14% to $4.26 billion, driven by 24% growth in Europe and Africa. The seating business grew sales 14%, the electrical unit 16%. Cash from operations advanced 6% to $391 million for the December quarter and 12% to $820 million for the year. Shares slumped on the quarterly report. The sell-off makes Lear look unduly cheap, its shares trading at less than 10 times year-ahead earnings, cheaper than about 93% of our research universe.
Lear entered 2014 with a three-year backlog of $1.9 billion. With global production expected to rise 3% this year, the midpoint of Lear's 2014 guidance calls for 11% higher core operating earnings, the result of higher anticipated profit margins and 6% sales growth. Lear's growth rate for annual sales has doubled global vehicle production since 2010. Lear is a Focus List Buy and a Long-Term Buy.