Buybacks treasure hunt
Move could present opportunity for gains for investors
Investors in Rogers Communications Inc. woke up to some very welcome news on Wednesday when the Canadian telecommunications giant hiked its dividend 11% and announced a $ 1- billion buy back of common stock.
Other investors, though, were left with the sense that they might have missed the boat.
In the case of Rogers, this is not necessarily true as the stock only nudged about 1% higher on the Toronto Stock Exchange due to concerns about its fourth quarter results. There’s still time for investors to get in on the ground floor.
Generally, share buybacks are an overlooked opportunity for investment gains that can give otherwise lagging company stock a quick boost — but actually anticipating a buyback can be much like treasure hunting.
In a share buyback, a company will purchase a set value of shares either on the open market or through a tender offer to shareholders, and then retire the shares they purchase. The net effect of this is a reduction in the amount of shares outstanding in the company, which increases the value of all shares remaining. As well, reducing the number of shares will improve the company’s earnings per share.
Buybacks, while potentially more expensive, can also be less of an ongoing commitment than dividend hikes, as any firm who has been faced with the wrath of angry investors after a dividend cut or outright suspension will readily admit.
The trick then, is all in the timing — buying into a company after a buyback is inherently more expensive than before, as you miss out on the appreciation.
Michael Nairne, president of private wealth management firm Tacita Capital, said investors have been so busy chasing after dividend yields in a lowinterest environment they have overlooked the additional value from share buybacks.
“If you take a look at anything with a dividend that’s high, it’s been chased and bid up in price,” he said. “There can be a lot of opportunities out there with companies that pay lower dividends but have constant healthy repurchases.”
There are also tax- related benefits, especially among U. S. investments. South of the border, dividends for Mr. Nairne’s high- net- worth clients are taxed at 46%, while stock gains are taxed at 23%. As well, these gains are only taxed if they are realized, which means investors can defer taxes on any gains stemming from a share buyback, he said.
In Canada, federal and provincial dividend tax credits level eliminate this advantage to a great extent, but the capital gains tax deferral strategy remains true.
To best capture share buyback exposure, Mr. Nairne suggests investors buy index ETFS. However, this is a decidedly blunt approach.
“In stockpicking land, you can look at individual securities with a history of it,” he said.
Martin Roberge, a quantitative analyst with Canaccord Genuity, said the best way to determine whether a company is likely to conduct a share buyback is to determine if they have the cash on hand to afford it.
“The amount of free cash flow yield ( the ratio of free cash flow per share to the market price per share) and the payout ratio relative to history are the best metrics to look at to gauge if companies will redistribute cash to shareholders,” he said. “Companies have to send a message that their balance sheets and fundamentals are solid.”
High- growth companies, which generally include small- caps or tech companies, generally retain their cash for capital investments. When companies get larger, more mature, with more regular cash flows, investors may begin to clamour for management to return some of that cash value to shareholders. In the case of Apple Inc., which does not pay a dividend, the iphone maker’s intentions for the billions in cash it is sitting on is becoming an issue.
And while companies who have started a dividend are expected to make regular payments as well as regular payment increases, buybacks are inherently less predictable: they only really make sense when companies believe their shares are significantly undervalued.
Even then, a share buyback is not always the best strategy, especially for smaller companies where liquidity becomes a concern if too many shares are retired.
“One way to boost liquidity is actually with a dividend, as it raises a flag for investors,” he said. “If a company does a buyback, nobody would pay attention.”
Unfortunately for investors, how companies go about deciding what to do with their cash, be it a dividend hike, a buyback, or a combination of both, is ultimately entirely up to management, Mr. Roberge said.
“Sometimes, companies don’t listen to investors,” he said. “I wish there were more gauges but it’s tough.”