Reckless New Fad: Companies Raise Money to Buy Back Stock, Pay Dividends

The Tale of Share Buybacks Few TellLast Thursday, the CEO of DIRECTV (NASDAQ/DTV) said “…we are pleased to announce a share repurchase program of $3.5 billion. This repurchase program reflects our strong balance sheet and confidence in continued strong DIRECTV revenue, earnings and free cash flow growth, as well as our belief that our stock is far below our intrinsic value.” (Source: “DIRECTV Announces Fourth Quarter and Full Year 2013 Results,” DIRECTV, February 20, 2014.)

DIRECTV is buying back its shares because it believes they are undervalued? Since when did CEOs of companies on key stock indices become stock pickers?

In 2013, DIRECTV’s total corporate earnings came in at $2.85 billion. That means the company is spending 122% of what it made in 2013 to buy back its stock. Talk about pumping up per-share earnings!

Cisco Systems, Inc. (NASDAQ/CSCO), another major component of key stock indices, reports it is “raising” $8.0 billion to repay some of its debt. It will use the remainder of the money to buy back its shares and pay dividends. (Source: Cisco Systems, Inc., February 24, 2014.) Yes, instead of raising money to invest in equipment, technology, or research and development (R&D), the new fad is for companies to raise money to buy back their shares and pay dividends.

These are only two examples of companies in key stock indices using share buybacks to make their per-share corporate earnings look better. There are many others that are doing the exact same thing.

Dear reader, with corporate earnings growth falling to its lowest level since 2009, companies have no choice but to prop up earnings via stock buyback programs. Companies in key stock indices are worried about their corporate earnings. By no surprise, so far, 75 of the S&P 500 companies have issued negative corporate earnings guidance for the first quarter of 2014. (Source: FactSet, February 21, 2014.)

Fundamentals? Technicals? They are getting thrown out the window. First, we had the Federal Reserve print money to buy U.S. Treasuries and the illiquid mortgage-backed securities on the books of the big banks. Now, we have big public companies in key stock indices borrowing money to buy back their stock and to pay their shareholders dividends. Does any of this make sense any more?

The run-up in key stock indices we’ve seen since 2009 is reaching its last months, if not weeks. At this point, I’m fearful of what’s to come for key stock indices, because as far as I am concerned, irrational behavior has taken over the markets.