Share buybacks are coming under scrutiny

A company may acquire own shares if it is solvent and liquid

SOME asset managers in South Africa believe that few boards fully grasp the different capital allocation opportunities, particularly the impact that opportunistic share repurchases can have on value creation.

Shaun le Roux, the manager of the PSG Equity Fund and Flexible Fund, said that for companies with strong balance sheets and low share prices, share buybacks should be much higher on the priority list.

“This is because management have the opportunity to enhance value by investing in a business they know very well, and they should be able to conclude with a high degree of probability that their share is undervalued.

“Yet local management teams seem to favour acquisitions, often in industries or geographies where their experience is limited. In fact, this is often a case of undertaking risky acquisitions to try to diversify or grow regardless of the long-run cost to investors,” Le Roux said.

The Companies Act provides that a company may acquire its own shares to the extent that it is solvent and liquid.

Earlier this year, diversified miner and BHP Billiton spin-off South32 launched a $500 million (R6.37 billion) share buyback programme, which in August it extended by $250m to $750m. The group’s share buyback programme has attracted fans and critics.

Supporters said it increased the long-term value of the company, whereas critics claimed it was intended only to boost the value of the share and enable directors to meet their own financial incentives.

Le Roux said, globally, the US led the way in using buybacks as a capital-allocation tool.

Drug maker Pfizer said on Monday that its board had authorised a new $10bn share repurchase programme and raised its quarterly dividend.

It joined several other businesses, including Boeing, Anthem and Bank of America, which have rolled out share buyback programmes.

Le Roux said South African boards and executive teams were largely reluctant to decrease the size of their equity base.

“We expect this to change in time, but view it as a missed golden opportunity given the depressed share prices of many listed domestic companies currently,” he said.

Patricia Williams, a partner in Bowmans tax practice, said South African companies disposing of shares may feel the pain of overly zealous tax proposals released this year.

“The 2017 Draft Taxation Laws Amendment Bill, issued on July 19, 2017, introduces tax proposals for addressing circumvention of anti-avoidance rules dealing with share buybacks and dividend stripping.

“However, these proposals extend far beyond share buyback and issue transactions. As such, South African companies disposing of shares (in any manner) may feel the pain,” Williams said.

“In the 2016 Budget review, the then-minister of finance indicated that ‘the widespread use of share buyback arrangements merits a review to determine if additional counter measures are required’.

“The 2017 Budget proposed that specific legislative counter-measures be introduced to curb the use of share buyback arrangements.

“Share buybacks are always a bad idea, unless you can do it at the bottom of the cycle (when the share is most undervauled),” said Henk Groenewald of Coronation Fund Managers.