This could spell trouble for the markets: Thomson Financial estimated that more than 20% of earnings growth for S&P 500 companies would be a result of buybacks. If the buybacks grind to a halt, will earnings suffer? It seems likely.
But think about that 20% figure. If it's accurate, that means that more than a fifth of corporate earnings growth is smoke and mirrors -- phantom earnings growth created by financial engineering rather than business. And it's unsustainable: Many of the massive share buybacks that have been announced are too large to be covered by the companies' free cash flow: They require a dip into shareholder's equity, and are a one-shot deal.
If corporate earnings growth is being driven by buybacks, we need to be scared. It means our economy is actually doing a lot worse than it looks.
Yesterday, I wrote about suggestions that insiders were using share buybacks to prop up their stocks -- while they sell shares. This emerging scandal, combined with the credit crunch, could mark the end of the golden age of shareholder buybacks.
Yesterday, Michael Schneider of BarreloMoney left the following comment on my post on buybacks:
I have been campaigning for dividend payments to shareholders instead of buybacks and think this is another reason we need to get the dividend tax cuts-- companies have been going more and more with buybacks since the Dems took back Congress in anticipation that the dividend taxes won't be extended. This is bad for shareholders. Dividends at least get some money back to shareholders instead of just providing opportunities for more manipulation by insiders.
I am inclined to agree with him but, unfortunately, the current tax treatment of dividends makes them, in my opinion, a completely inefficient way of returning capital to shareholders. But now that we're seeing the potential pitfalls of buybacks, I'm tempted to yearn for a return to dividends. But the tax treatment would need to change for that to happen.
Yesterday, Michael Schneider of BarreloMoney left the following comment on my post on buybacks:
I have been campaigning for dividend payments to shareholders instead of buybacks and think this is another reason we need to get the dividend tax cuts-- companies have been going more and more with buybacks since the Dems took back Congress in anticipation that the dividend taxes won't be extended. This is bad for shareholders. Dividends at least get some money back to shareholders instead of just providing opportunities for more manipulation by insiders.
I am inclined to agree with him but, unfortunately, the current tax treatment of dividends makes them, in my opinion, a completely inefficient way of returning capital to shareholders. But now that we're seeing the potential pitfalls of buybacks, I'm tempted to yearn for a return to dividends. But the tax treatment would need to change for that to happen.
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