Returns Tend To Rise After Repurchases

8/1/2011


In part to deploy cash hoards amassed in recent years, a rising number of companies are repurchasing their own shares. Total spending on buybacks reached $89.8 billion for S&P 500 Index components in the March quarter, 62% above year-earlier numbers. In the quarter, 305 S&P 500 companies repurchased shares, up 22% from a year earlier. 

Academic studies have demonstrated that stock prices tend to rise after a company announces a stock buyback, and the positive effect of buyback announcements is widely accepted. However, the issue of whether investors profit from the actual buybacks is more divisive. 

Ideally, a buyback will increase the value of the remaining shares by boosting per-share numbers, such as profits. In addition, stock buybacks may signal to the market that management considers its shares undervalued.

Repurchases also offer a more flexible way to share the wealth with shareholders than a large dividend hike. After all, unlike a dividend cut — or even the threat of one — a quarterly decline in repurchases probably won't spook investors.

But not all the aftereffects of buybacks work to the benefit of shareholders. Many companies buy back shares to offset dilution caused by stock options. Since options tend to be exercised when the stock is rising, companies may need to pay ever-higher prices to repurchase their own shares.

As shown in the line chart above, buybacks for S&P 500 companies peaked in the first half of 2008, the brink of the stock market's collapse. In the following months the index plunged to its lowest level in more than a decade, yet many companies chose to conserve capital rather than repurchase their own shares at lower prices.

Adding value

So, do buybacks benefit shareholders? We performed a study of repurchasing trends for the S&P 500, finding that stocks tend to outperform in the 12 months after a quarter in which the share count declined at least 0.5%. In rolling 12-month periods since 1994, companies that reduced their share count averaged median returns of 9.3%, versus 8.8% for all stocks in the index. While the outperformance wasn't huge, it occurred in nine of the S&P 500's 10 sectors.

We at the Forecasts aren't the only ones who drew this conclusion. In 2003, professors at Boston College and the University of Washington released a study of stock returns from 1970 through 1999.  The study found that after companies repurchased their stock, they tended to deliver market-beating total returns. In contrast, companies that issued shares tended to lag the market.

The table below shows 19 companies that have consistently used buybacks to lower their share count, not just offset dilution. We include the average price at which the companies repurchased stock in the past year so subscribers can assess how companies performed in one of the key tenets of investing — buying low. Two of those companies are reviewed below.

For a closer look at S&P 500 Index stocks that aggressively shrink their share counts, visit www.DowTheory.com/Go/Buybacks.

CSX ($25; CSX) repurchased nearly 56 million shares in the four quarters ended June at an average price of $21.13, below the midpoint of the stock's price range of $16 to $27 during that period. All numbers are adjusted for a 3-for-1 split in June. The railroad company has purchased more than $5.8 billion in shares since the start of 2006, lowering its share count by roughly 20%. In May, CSX announced a fresh $2 billion repurchase program it expects to complete by the end of next year. After June-quarter repurchases, the program could trim shares by another 6% at current prices. To help fund the buybacks, CSX supplemented its abundant free cash flow (up 34% to $910 million for the 12 months ended June) with $600 million of debt issued in May. CSX is a Focus List Buy and Long-Term Buy.


NASDAQ OMX Group's ($24; NDAQ) share count rose steadily in the years leading up to the financial crisis and another 39% in 2008 to cover the purchase of Scandinavian exchange OMX. But buybacks have been a point of focus recently, with NASDAQ lopping off 16% of its stock count, or about 34 million shares, since March 2010. In December, NASDAQ repurchased 22.8 million shares from its largest shareholder, Borse Dubai, at $21.82 per share, roughly a 3% discount to the stock's price at the time of the announcement. So far, NASDAQ has done well with deal. June-quarter profits came in slightly above the consensus, though NASDAQ raised its 2011 expense target. NASDAQ is a Buy and a Long-Term Buy.

COMPANIES BUYING BACK SHARES
All 19 of the stocks below reduced their share count by more than 5% over the last four quarters and have outstanding repurchase authorizations for at least 3% of shares outstanding. An A rating means above average, and B means average. Stocks recommended for purchase are presented in bold. Much of this data is found only in SEC filings, and is not yet available for most companies that have released June-quarter results.
Current Share-Repurchase Plan
Repurchases,
Last 4 Quarters
(Millions)
Stock Trading Range (Last 4 Qtrs.)
Change in
Share Count
Company (Price; Ticker)
Remaining
($)
As Of
% of Shares
Outstanding
Total
Shares
Average
Purch.
Price
Per Share
($)
High
($)
Low
($)
Last 4
Qtrs.
(%)
Last 5
Years
(%)
Industry
Most
Recent
Quarter
Rating
Advance Auto
Parts
($58; AAP)
278
5/27/11
6
10.4
59.56
69.51
-
41.76
(11)
(26)
Cons.
Discret.
Mar.
A
AutoZone
($295; AZO)
500
6/14/11
4
6.9
230.28
287.00
-
183.70
(13)
(44)
Cons.
Discret.
May
A
Best Buy
($30; BBY)
5,000
6/21/11
42
46.6
34.04
45.63
-
28.09
(8)
(21)
Cons.
Discret.
May
B
Biogen Idec
($105; BIIB)
1,470
7/26/11
6
14.0
61.11
109.63
-
46.15
(6)
(28)
Health
Care
Jun.
B
Cisco Systems
($16; CSCO)
11,700
4/30/11
13
365.0
21.39
27.69
-
16.52
(6)
(12)
Technology
April
B
CSX
($25; CSX)
1,773
7/21/11
6
55.6
21.13
26.81
-
15.50
(4)
(21)
Industrials
Jun.
A
DirecTV
($52; DTV)
4,915
3/31/11
12
152.0
39.80
47.40
-
31.00
(15)
(41)
Cons.
Discret.
Mar.
A
Gilead Sciences
($42; GILD)
6,430
3/31/11
19
120.8
36.57
46.62
-
31.73
(11)
(16)
Health
Care
Mar.
B
Hewlett-Packard
($37; HPQ)
15,900
4/30/11
19
268.9
42.79
52.95
-
37.32
(9)
(24)
Technology
April
A
IBM
($183; IBM)
8,653
7/26/11
4
102.7
148.27
173.54
-
120.61
(6)
(22)
Technology
Jun.
A
Lockheed Martin
($81; LMT)
1,943
3/27/11
7
30.0
74.84
87.06
-
67.68
(7)
(20)
Industrials
Mar.
B
Lowe's Cos.
($23; LOW)
1,400
4/29/11
5
132.2
24.07
27.92
-
19.35
(8)
(16)
Cons.
Discret.
April
B
NASDAQ OMX
($24; NDAQ)
249
12/31/10
6
35.6
21.12
29.71
-
17.18
(16)
42
Financials
Mar.
A
Res. In Motion
($27; RIMM)
712
6/16/11
5
 34 * 
NA
70.54
-
42.53
(6)
(9)
Technology
May
B
Target
($51; TGT)
1,353
4/30/11
4
55.7
52.71
60.97
-
48.23
(6)
(21)
Cons.
Discret.
April
B
Travelers
($57; TRV)
5,173
6/30/11
22
64.6
55.69
64.17
-
48.17
(15)
(42)
Financials
Jun.
A
Walgreen
($40; WAG)
2,000
7/13/11
5
72.9
32.73
47.11
-
26.26
(6)
(9)
Cons.
Staples
May
A
Wal-Mart
($54; WMT)
15,000
6/3/11
8
263.8
52.80
57.90
-
47.77
(7)
(16)
Cons.
Discret.
April
A
WellPoint
($74; WLP)
882
3/31/11
3
67.8
56.93
70.00
-
46.52
(15)
(43)
Health
Care
Mar.
A
Note: Amount remaining under share-repurchase plans calculated based on current share price.    
* Estimated.     NA Not Available.

 


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