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I don’t believe it’s fair to call the practice “unsustainable” without qualifications. It’s just the opposite of issuing stock. Even when done with borrowed mo

I don’t believe it’s fair to call the practice “unsustainable” without qualifications. It’s just the opposite of issuing stock. Even when done with borrowed money, it is simply replacing one source of funding (investment) with another (debt). When interest rates are low, the latter becomes attractive. If/when they rise, trouble may ensue. But for a profitable company, the normal, entirely adequate, reaction would just be the reverse transaction, retiring the remaining debt with newly issued stock.

freehunter 8y ago
It's an unsustainable way to prop up a share price in a declining market. The market could stay in decline longer than you can stay fiscally solvent.
- shaki-dora 8y ago
  Those are some phrases I have heard before. And I agree that those posting them did come off somewhat intelligent, usually. Unfortunately, I don't quite get the intended meaning here. How is a declining market threatening a profitable company that, at some point in its past, bought back shares? There are no on-going financial commitments a company has that are tied to the daily fluctuations of the stock market. Even if they have taken on debt to finance a buyback, a future decline of the stock market has no bearing on them, except to possibly make it less lucrative to issue new stock. As long as they make a profit in their core business, and those profits allow them to pay the 3% or 4% interest on any debt, they are completely save. A rise in interest rates does have a meaningful impact here, yes. But (a) interest rates have been rather stable for going on 40 years now, and this is a well-known risk that is an obvious part of any decision to take on debt. It can, and often is, also be hedged by agreeing to fixed interest rates, or hedging.
  - freehunter 8y ago
    Buying back shares is not unsustainable in and of itself. Buying back shares to artificially inflate your stock price is. The unsustainable part is giving investors the impression that, while the Dow plunges 500 points, your stock remains stable. Then when your buybacks stop and your shares plummet with the rest of the market, it gives the impression that something suddenly happened and your company is in a dire situation. Either you keep buying shares to inflate the value (which gets expensive) or you stop and accept that your shares will go down (which looks worse now that your stock price has not declined with the rest of the market). Either way, if you're using buybacks to keep your stock price up in a market that's down, you're going to get burned eventually.
  - moorhosj 8y ago
    The better question might be, why would a profitable company borrow money for the purpose of buying back shares? If they want to reward shareholders, they can issue a dividend. If they think the company will grow, the can invest in growth. The "argument" made is that companies think their stock is undervalued by the market and want to capture that price growth. Why would so many companies think their stocks are "undervalued" in 2018 after a 10 year bull market? Before 1982, we viewed buybacks as market manipulation and it was illegal [1]. In reality, companies do this in order to increase their stock price and earnings per share, the two things for which executives are typically compensated. If you take the same earnings and divide over fewer shares, you have magically increased your EPS without improving the actual business. [1] https://www.forbes.com/sites/aalsin/2017/02/28/shareholders-should-be-required-to-vote-on-stock-buybacks/#50bc2d046b1e https://www.forbes.com/sites/aalsin/2017/02/28/shareholders-...
    - matt4077 8y ago
      No, the argument is that debt-financing at times is simply cheaper than equity financing. Equity carries more risk, because stockholder are paid after bondholder in the event of bankruptcy. Therefore, equity investors (stockholders) demand higher returns than lenders. Depending on a few other factors, borrowing is the better option to raise operational capital than issuing stock. Conversely, when your need for capital decreases, you no longer want to pay for it. And just as you may repay a loan (early) in that case (if you are debt-financed), you may buy back shares, if you are financed by equity.
- smolder 8y ago
  maybe buybacks aren't done with an interest in being sustainable - don't they provide a good opportunity for shareholders to exit their investment at a higher price than they entered?
mtgx 8y ago
I think doing this points to a dysfunctional system. You're betting that your company's financials and stock price will improve, so you get debt to buy back the stock. It's no different than an individual getting into debt to buy say Nvidia stock because they think the price of the stock will keep rising. This is always a mistake in the long term, and it should be discouraged - for both individuals and companies. It's even worse when you see companies like Apple with tens or hundreds of billions of dollars in cash getting debt to buy back its stock. Come on. This is a disaster waiting to happen. We shouldn't have to wait until the economy slows down/a recession arrives to figure this one out. It's clearly dysfunctional/a bad thing to have in an economy.
- shaki-dora 8y ago
  I could just as easily describe the net result as companies using debt instead of investment to finance operations. A practice that is far older than publically-traded stocks, and absolutely common. The wisdom of privately buying stock with debt stems from a consideration of the risks involved. But a company is going to shoulder its risk of operations, no matter how you turn it. I also don't get your criticism of Apple's practice: It's well understood that it happened for tax considerations, and surely them holding billions of dollars in cash cannot, in anyway, be worse than not having billions of dollars in cash? In any case, the current tax "amnesty" seems to be in the process of resolving that particular accounting nightmare of yours.
  - lumost 8y ago
    It's worth calling out the systematic distortion here. As a rational investor one may buy into a stock under the thesis that the company is going to perform buybacks with debt. As you can be long until the debt buybacks end, and the company implodes. A smarter investor would acquire large stakes in companies capable of issuing debt and lobby the boards to perform buybacks, allowing a form of corporate raiding with less capital invested and dramatically more reward. Both of these strategies rely on the greater fool hypothesis, but in a period with historically low interest rates and an implicit hedge that the fed would stimy any wide spread defaults it's a valid investment strategy.
SilasX 8y ago
Mostly agree, but I don't like the characterization of stock issuance as being just as easy as stock buyback.

freehunter 8y ago

It's an unsustainable way to prop up a share price in a declining market. The market could stay in decline longer than you can stay fiscally solvent.

shaki-dora 8y ago
Those are some phrases I have heard before. And I agree that those posting them did come off somewhat intelligent, usually. Unfortunately, I don't quite get the intended meaning here. How is a declining market threatening a profitable company that, at some point in its past, bought back shares? There are no on-going financial commitments a company has that are tied to the daily fluctuations of the stock market. Even if they have taken on debt to finance a buyback, a future decline of the stock market has no bearing on them, except to possibly make it less lucrative to issue new stock. As long as they make a profit in their core business, and those profits allow them to pay the 3% or 4% interest on any debt, they are completely save. A rise in interest rates does have a meaningful impact here, yes. But (a) interest rates have been rather stable for going on 40 years now, and this is a well-known risk that is an obvious part of any decision to take on debt. It can, and often is, also be hedged by agreeing to fixed interest rates, or hedging.
- freehunter 8y ago
  Buying back shares is not unsustainable in and of itself. Buying back shares to artificially inflate your stock price is. The unsustainable part is giving investors the impression that, while the Dow plunges 500 points, your stock remains stable. Then when your buybacks stop and your shares plummet with the rest of the market, it gives the impression that something suddenly happened and your company is in a dire situation. Either you keep buying shares to inflate the value (which gets expensive) or you stop and accept that your shares will go down (which looks worse now that your stock price has not declined with the rest of the market). Either way, if you're using buybacks to keep your stock price up in a market that's down, you're going to get burned eventually.
- moorhosj 8y ago
  The better question might be, why would a profitable company borrow money for the purpose of buying back shares? If they want to reward shareholders, they can issue a dividend. If they think the company will grow, the can invest in growth. The "argument" made is that companies think their stock is undervalued by the market and want to capture that price growth. Why would so many companies think their stocks are "undervalued" in 2018 after a 10 year bull market? Before 1982, we viewed buybacks as market manipulation and it was illegal [1]. In reality, companies do this in order to increase their stock price and earnings per share, the two things for which executives are typically compensated. If you take the same earnings and divide over fewer shares, you have magically increased your EPS without improving the actual business. [1] https://www.forbes.com/sites/aalsin/2017/02/28/shareholders-should-be-required-to-vote-on-stock-buybacks/#50bc2d046b1e https://www.forbes.com/sites/aalsin/2017/02/28/shareholders-...
  - matt4077 8y ago
    No, the argument is that debt-financing at times is simply cheaper than equity financing. Equity carries more risk, because stockholder are paid after bondholder in the event of bankruptcy. Therefore, equity investors (stockholders) demand higher returns than lenders. Depending on a few other factors, borrowing is the better option to raise operational capital than issuing stock. Conversely, when your need for capital decreases, you no longer want to pay for it. And just as you may repay a loan (early) in that case (if you are debt-financed), you may buy back shares, if you are financed by equity.
smolder 8y ago
maybe buybacks aren't done with an interest in being sustainable - don't they provide a good opportunity for shareholders to exit their investment at a higher price than they entered?

mtgx 8y ago

I think doing this points to a dysfunctional system. You're betting that your company's financials and stock price will improve, so you get debt to buy back the stock. It's no different than an individual getting into debt to buy say Nvidia stock because they think the price of the stock will keep rising. This is always a mistake in the long term, and it should be discouraged - for both individuals and companies. It's even worse when you see companies like Apple with tens or hundreds of billions of dollars in cash getting debt to buy back its stock. Come on. This is a disaster waiting to happen. We shouldn't have to wait until the economy slows down/a recession arrives to figure this one out. It's clearly dysfunctional/a bad thing to have in an economy.

shaki-dora 8y ago
I could just as easily describe the net result as companies using debt instead of investment to finance operations. A practice that is far older than publically-traded stocks, and absolutely common. The wisdom of privately buying stock with debt stems from a consideration of the risks involved. But a company is going to shoulder its risk of operations, no matter how you turn it. I also don't get your criticism of Apple's practice: It's well understood that it happened for tax considerations, and surely them holding billions of dollars in cash cannot, in anyway, be worse than not having billions of dollars in cash? In any case, the current tax "amnesty" seems to be in the process of resolving that particular accounting nightmare of yours.
- lumost 8y ago
  It's worth calling out the systematic distortion here. As a rational investor one may buy into a stock under the thesis that the company is going to perform buybacks with debt. As you can be long until the debt buybacks end, and the company implodes. A smarter investor would acquire large stakes in companies capable of issuing debt and lobby the boards to perform buybacks, allowing a form of corporate raiding with less capital invested and dramatically more reward. Both of these strategies rely on the greater fool hypothesis, but in a period with historically low interest rates and an implicit hedge that the fed would stimy any wide spread defaults it's a valid investment strategy.

SilasX 8y ago

Mostly agree, but I don't like the characterization of stock issuance as being just as easy as stock buyback.