Share buybacks offer execs an easy way out
IT’S time the lawmakers, mainly the ones who make the tax laws, and the regulators in this country started taking share buybacks seriously.
What started off quite slowly, after the 1999 amendments to the Companies Act, has grown steadily to become an essential feature in the life of a listed company. Now every AGM includes a resolution seeking approval for the board to buy up to 20% of the company’s issued equity.
Without exception, our institutional shareholders uncritically grant the necessary approval. But ask the same shareholder how much the company spent on share buybacks in previous years and, almost without exception, he will not be able to tell you.
Share buybacks are primarily seen as a way of underpinning a company’s share price. Supporters argue that if the share price is trading below its “intrinsic” value — whatever that might be — it “makes sense” to buy up shares. “Making sense” essentially means that if the shares are repurchased and cancelled, the net asset value per share and earnings per share will be enhanced.
The prospect of increased EPS and NAV in the short term is why institutional shareholders are enthusiastic supporters of share buybacks.
Opponents of share buybacks contend they are rife with potential conflicts of interest and essentially represent not a vote of confidence in a company but the opposite — a partial liquidation.
The decision to buy back shares, opponents say, is taken by executives who are insiders or are so close to the matter that they may be unable to take a dispassionate view on what the appropriate price for the company’s share is.
More recently, share buybacks have started to feature prominently in broader corporate actions such as changes in control. Tsogo Sun’s repurchase of SABMiller’s 42% stake was a tax-efficient and cheap way for HCI to get control of Tsogo Sun. Even more efficient was the buyback of Steinhoff shares in the Pepkor/Brait deal.
And then there’s Dawn’spuzzling plan — temporarily abandoned — to buy back 78million shares at huge cost.
The fact that corporate advisers have seen the benefits of share buybacks is proof that when the rewards are sufficiently high, unintended consequences are inevitable.
But getting back to what we might call the vanilla share buyback, what should we make of a decision to buy back shares taken by directors whose wealth is tied up in the value of those shares? And what should we make of the fact that the surge in buyback activity has coincided with the increased use of shares and options to remunerate executives?
Research in the US and UK suggests that executives are diverting funds that should be invested in operational capacity into buybacks. The buybacks provide a short-term, risk-free underpin to share prices, whereas operational investment is fraught with real-life risks and likely involves a longer time horizon.
In South Africa there has been no shortage of excuses for the general slowdown in investment by listed companies. Most, such as Eskom and political uncertainty, are valid. But what is always left out of the discussion is that share buybacks offer executives the opportunity to boost earnings per share without taking any risks at all. So why would they bother even considering “real” job-creating investments, which might knock EPS in the short term and only generate returns after the executive has retired in three or four years?
The extent to which this happens will never be known because, unlike the US and UK, there is a dearth of information on share buybacks in South Africa.
Last year, the JSE introduced a rather flabby requirement that companies had to disclose the quantity and value of share buybacks each year in their annual report.
Local academics who are battling to get a handle on the issue say this has been of little use. At the very least, they say, JSE investors should be given the same daily information provided by London-listed companies.
Perhaps the matter is too serious and conflicted to be left in the self-regulating hands of the JSE.