Scary news this week.
No, not Ebola, although that’s scary enough. Ebola, while extraordinarily lethal, is, fortunately, not particularly contagious when compared to other viruses.
Not that Ebola should be trivialized. Somewhere between “there’s always something” and panic in the streets is a reasonable reaction. I’m concerned, not that there’s anything I can do about it.
Anyway, the most likely outcome of the Ebola outbreak will be large-scale tragedy that mostly happens to Other People Far Away From Here.
The outcome of this week’s scary news, in contrast, affects us all every day.
The scary news? According to Bloomberg’s Lu Wang and Callie Bost, in the aggregate the companies that make up the S&P 500 are going to spend 95% of their earnings on dividends and stock buy-backs.
By itself, this statistic is less dire, or at a minimum more ambiguous than most analysts make it out to be.
Areas companies “should” spend their money (should being as much a moral as business proposition) such as labor, R&D and preventive maintenance, are pre-tax expenses. Dividends and buy-backs, in contrast, are after-tax expenses and aren’t deductible.
Which means it isn’t really proper to think of these as competing for the same funds. If a company were to reinvest more in its future (pre-tax) that would affect how much money is left in this-year profits to use for buybacks and dividends, but wouldn’t affect what percent of profits get used this way.
It would just make the amount that percentage translates to smaller.
Move along folks. There’s no story here. Or there wouldn’t be were it not for two factors: (1) Executives make spending decisions with an eye to how much will be left to fund buy-backs and dividends; and (2 … and this is the scary one) this year, companies aren’t just returning profits to their shareholders. As reported in Bloomberg, “Cash returned to shareholders exceeded profits in the first quarter for the first time since 2009.”
In short: Investments in what analysts delicately describe as “financial engineering” are up, capital investments are down.
The verdict: If this is the best use for cash the folks running the S&P 500 can come up with, it means they can’t figure out how to use the money to grow their businesses.
Which is, when you come right down to it, pathetic.
Only … for many of KJR’s readers and subscribers, they is we.
Yes, I’m sorry to report that it’s mirror-gazing time again in KJR County, because …
You might recall reading in this space from time to time that part of your job as an IT leader … and part of IT’s job as an organization … is to provide technology leadership.
Now I’m the first to say (or at least, close to the head of the line) this isn’t limited to tactical, hard-dollar, short-term ROI opportunities. The most critical dimension of technology leadership is identifying competitive threats and opportunities and recommending a course of action to deal with them.
The most critical dimension, not the only dimension.
Which leads to this question: When was the last time you or another member of your team sat down, one-on-one, with a business executive or manager to discuss what he/she wants to do differently and better?
There’s little question, some of the buy-back-and-dividends vs capital investment decision-making is pure, lazy opportunism. Buy-backs in particular are a cheap trick to prop up the price of a share of stock and nothing more. Directing cash in this direction when such niggling details as preventive maintenance are underfunded is ridiculously short-sighted, akin to making sure your wine cellar is well-stocked when your car needs its oil changed.
But in here is also an opportunity. Boards of directors approve buy-backs when, as already noted, they don’t have higher-return alternatives for investing the company’s spare cash.
It’s an opportunity because it tells us these boards have cash and need places to invest it, which might mean they’re open to suggestions from the company’s top executives.
Which might mean the company’s top executives are open to suggestions themselves.
The word is “might,” because if a company suffers from a paucity of investment possibilities it also might mean the company culture discourages employees at all levels from looking for and suggesting possibilities for improvement.
Now culture flows from the top, so if your company lacks a culture of innovation the CEO is probably the source of the lack.
But what do you have to lose by trying?
You are far too kind Bob. Let’s take IBM as an example. Buying back stock helps to increase the price per share when earning aren’t so great. It also inflates future P/E ratios. That in turns helps future executive options and bonus goals such as an earnings per share target.
At the same time, activist investors ride corporations looking for buybacks so their share prices increase.
I agree with you hypothesis, but can’t help but wonder how an IT leader can make a difference in larger companies who have other motives (Iceland anyone)?
Snarky response appreciated.
Snarky response? Hmmm. I’m still stuck on being accused of being kind. Not a common occurrence for yours truly.
Bob,
I suspect part of the emphasis on dividends and stock buy-backs is driven by a focus on “shareholder value,” which, all too often, is interpreted by CEOs and boards of directors as “increasing the price of the stock in the short term.” This is often compounded by “aligning executives’ interests with shareholders” by shifting large portions of their compensation into options and other forms of equity. As a self-interested, rational actor (in economics-speak), if I have options that are ready to exercise, I want to drive the stock price as high as possible now, even if the increase is not sustainable or I’ve jeopardized the long term prospects of the organization. Increasingly, boards of directors are also being compensated with equity, also in the name of aligning their interests with shareholders, which incents them to go along with these short sighted approaches. We reap what we sow, but sometimes we don’t realize what we’re sowing.