Submitted by lilly_kilgore t3_10phz45 in explainlikeimfive
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lilly_kilgore OP t1_j6kkmo8 wrote
Ahhh ok this makes sense. Thank you.
omicrom35 t1_j6ku66c wrote
Correct me if I am wrong but companies have to actively approve dividends each year?
tdscanuck t1_j6kugm2 wrote
Usually the company proposes dividends and their board of directors approves it. From a purely process standpoint, most companies can turn dividends on or off at will (details depend on their exact corporate rules). In practice, investors generally expect dividends to be pretty even over long periods so companies don't like to mess with dividends...once you start doing them, or increase them, it's really hard to stop without a significant stock price hit.
DTux5249 t1_j6kybd1 wrote
Put simply: Correct, in a vacuum where shareholders were bricks with wallets that don't care about getting paid
DragonFireCK t1_j6kpydg wrote
A stock buy back is when a company buys some of its own stock. As doing so reduces the amount of shares available, it results in the stock price going up - the whole supply and demand idea.
This is one of two ways a company can distribute cash to its investors, with the other one being to pay a dividend. With this, the company just directly pays the owner of each share of stock some amount of money.
The rich will generally prefer a buy back due to how it affects taxes, at least in the US. Notably, the rich can take loans using the stock as collateral allowing them to defer paying taxes, often permanently as no tax is owed until the stock is actually sold. Dividends get taxed immediately, using the same rate as if you sold stock.
A common complaint is that the same companies performing the buy backs are saying they cannot afford to pay their workers more, despite spending many thousands per year per employee on the buy backs. This is also at the same time the company is trying to get tax breaks or stimulus money so they can stay in business.
highvelocityfish t1_j6kzxmk wrote
Another reason that buybacks are preferable to shareholders is that the upper middle class and below will likely not pay tax when selling stock due to capital gains tax law, while they do at their standard income tax bracket for dividends.
Not sure that the theory about loans holds water though. You have to pay the piper one way or another, and whatever you do to earn that money is a taxable event unless you're living on a small enough amount of money to keep your sales under the threshold for 0% cap gains tax.
ContinuousZ t1_j6kyj7m wrote
>the rich can take loans using the stock as collateral allowing them to defer paying taxes, often permanently as no tax is owed until the stock is actually sold
you imply they do this to avoid taxes which isn't the case and you say "permanently" which makes no sense. You realize they have to pay back these loans, right? So what ever income they've made will be taxed and will go towards the loan(which btw has a small interest rate). The reason the rich get loans because they believe their stock will go up so they want to hold on to as long as possible. So if A rich person wants 100mil instead selling the 1mil shares, they get a loan and when they have to pay off the loan they might have to only sell 300,000 shares.
DragonFireCK t1_j6l18kz wrote
It does need more elaboration, but using loans with stock as collateral is a way to avoid, or at least minimize, taxes very long term. If the collateral raises in value at least as fast as the interest rate, you can take out more loans to service the initial debt. If the collateral raises faster than the interest rate, this can be extended to add on more debt load in total. Using this is risky, in the same way that margin stock is dangerous: losses are magnified more than gains are, and a stock drop can wipe out many times the amount of wealth from the owner.
The loans will also let them do better timing with sells, delaying payments such that they can liquidate a stock that lost value at the same time as stock that gained value, reducing the taxable liability when they do actually sell. This is presuming they hold any stock that actually lost value.
Most of the rich will have outside sources of income that they can use to service any debts they have. This will include items such as base pay and stock grants from the companies they own.
If they manage to delay the repayment until death, proper estate planning allows other tricks with minimizing tax liability.
ContinuousZ t1_j6m7fu4 wrote
>avoid
You just said avoid. There is no avoiding just delaying. You still have this impression this practice is done purely to "avoid" taxes. You don't pay interest on a huge loan to delay paying taxes.
>If the collateral raises faster than the interest rate, this can be extended to add on more debt load in total. Using this is risky
the banks that are giving out the loans don't like risky
>The loans will also let them do better timing with sells.
You're just reiterating what I just said.
>If they manage to delay the repayment until death
Banks are in it to make money. They aren't going to let Jeff Bezos take out a huge loan and not pay it back for 40 years.
freerangestrange t1_j6ksrs3 wrote
A lot of these answers are incomplete.
Let’s say you run a profitable publicly traded business. Each year you will have some of your profit leftover after you pay for the costs of running the business and what not. Now you can try to reinvest all that cash back into the business in the hopes of increasing future returns and growth. Give employees raises and open new stores, research new production methods and tech, etc.
At some point you really can’t effectively reinvest in the business. Not every dollar reinvested will have a good return. So what do you do with the money? You can pay out a dividend to shareholders, buy back your own stock or purchase another business. Each of those have upside and downside and a good management will consider all of those before choosing one. Dividends used to be much more popular but the perception has changed over time. Some people don’t like the idea of having to pay taxes on this money instead of letting it grow. Buybacks are a middle ground. By decreasing the outstanding shares, the other shares become more valuable as their piece of the pie becomes larger. They aren’t taxed on the gains since they haven’t really received them. One issue with this is that buybacks when a stock is overpriced is not usually prudent and probably would have been better distributed as a dividend.
I believe the negative perception of stock buybacks has to do with an incomplete understanding of free cash flow from productive businesses and the limited options they have to use this money intelligently
bobjoylove t1_j6kw88p wrote
Dividends have a couple of other negatives. One is that if you reduce the dividend for any reason, people sell the stock. Also I believe if you pay a dividend it reduces the value of the company because it is removed from the company assets, which should reduce the price of stock (if you ignore all other factors influencing the stock price) Finally if the company buys back stock it can then issue it to staff as RSUs over 4 years to make “golden handcuffs” to retain the best players.
RodeoBob t1_j6kropf wrote
When a company makes a profit, and has cash on hand, there are a few things they can do with that cash.
They could spend it to improve the company's operations. (buy better equipment, repair stuff, train staff, etc.) But people who buy and hold the company's stock as an investment generally don't like that, so companies don't do a lot of that.
The company could give all their employees raises. But the people who buy and hold the company's stock don't like that, because it doesn't make the stock price go up, and doesn't make them any money.
The company can issue some of its profits as a payment to the people who hold stock. This is called a dividend. This does make stock-holders more money, but dividends are taxable income, and the people who buy and hold stocks don't like to pay taxes.
The company can literally purchase some of its own stock off the stock market to take back. Buying stock creates demand, and reduces the supply of available stock that other people could buy, so that often results in the stock price increasing. People who buy and hold stocks like it when the value of their stocks increase, so they like this.
Stock buy-backs are very literally open attempts by the company to manipulate the stock price, and for a very long time, they weren't just frowned upon, but outright illegal.
ceelo71 t1_j6l2asv wrote
Profit extraction over value creation
rjdevereux t1_j6kusrw wrote
Lots of partially correct bits mixed with incorrect bits and partial answers. Looking for an article on this might give you a clearer answer. https://www.investopedia.com/articles/02/041702.asp
[deleted] t1_j6kkr4q wrote
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Famous_Campaign9329 t1_j6kuxr7 wrote
Few reasons: The company may not want to flood the market. This decreases the value of the stock. The company may not want its stocks to be bought by a competitor. The company believes the stock price will rise, so they buy the stocks back and sell them when the prices have gone up.
grat_is_not_nice t1_j6kv2d3 wrote
Share buybacks can be used for various purposes, and some of those purposes have more of an impact than others.
First - a company may buy back shares to replenish their employee stock remuneration pool. The total number of shares does not change, the value of the shares does not change significantly, and the employees eventually gain that benefit through share issues and discounted stock purchases. This is a valid and important way of cycling some of the companies cash-flow back to employees who gain stock benefits.
Second - a company may buy back shares to replenish or increase their management stock remuneration pool. This may or may not be positive for the company if this is used solely as a way to transfer company liquidity (cash) into the hands of management. This may also change the balance of control in the company from external investors to company management.
Third - a company may buy back stock and cancel the repurchased shares. This increases the value of the existing shares by the proportion of shares cancelled. Lets say the company has 50 million 1$ shares, and buys back 25 million shares and cancels them. The company has spent $25 million dollars, but the value of the remaining 25 million individual shares has increased significantly. They may not have doubled in value (due to the spent capital), but if the company is solid then that value will increase. This is seen as a quick way to again convert company cash into value for significant shareholders (both external investors and management). This approach may also be used to boost value of shares when the company is failing, allowing those in the know to cash out.
As you can see, only one of these approaches benefits company employees, and they do benefit management with significant stock holdings. The cash used for stock buybacks is no longer available for dividends to be paid to external investors - those investors must give up their investment to get a return. I addition, if the company only has significant liquidity due to support that has been provided for pandemic and other economic relief, then that cash being used to benefit management and investors as opposed to employees should be a cause for concern.
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Salindurthas t1_j6l059o wrote
Companies pay dividends to their shareholders.
Companies that have some money lying around might normally try to invest it in opening new stores, or developing new products/services, or advertising, or hiring more staff, or upgrading their building, etc etc. This would be 'investment'.
However, sometimes companies can't find a good investment. They judge that there isn't enough demand for a new store, or that they are investing enough into produt developement, or that more advertising wouldn't help because they've already reached their target audience.
They could instead "Invest in themselves" so-to-speak by buying their own shares back. This effective destroys those shares since they issued them, so getting them back basically makes them cease to exist. This has a few effects:
- They are aiming to profitit the shareholders buy directly paying out the ones they buy these shares from.
- The spike in demand from them buying back the shares, and the reduced supply of shares, concentrates them in the hands of those who kept hold of them, so that also tries to help the profit of shareholders.
- They could pay out less in dividends (i said they shares are essentially destroyed, but if you still imagine them holding onto their own shares, then they are just paying the dividends to themselves, i.e. not having to pay them for those shares), which is like saving money, i.e. the 'investment' into themselves pays off.
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It can sometimes be seen as a poor business move. Shareholders might like share buybacks since it is kinda diretly trying to give them value, but something they believe the business should expand, rather than consolidate like that.
It can be seen as greedy, because the money could instead go to employees or reducing prices, rather than aiming to help the shareholders.
It can be seen as corrupt, as the executives and board members that might have a say in this decision, might own some of the shares, and so might directly profit in some scenarios. e.g. they have an opportnity to buy up shares before the company does a buy-back, hence preempting the spike in demand and maybe getting an unfair gain.
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LukeBellmason t1_j6l1d28 wrote
Everything I know about stocks and shares comes from playing Railroad Tycoon. I remember the options for short selling and buying back, and seem to recall that buying back temporarily put up the share price as you were effectively reducing the supply of shares, making the existing shares worth more?
carneficinatimoteo t1_j6l1whc wrote
Originally, a company issues equity (shares) of itself in exchange for cash. Equity is ownership of the company, whoever owns the equity (shares/stock/whatever form it is) owns a piece of the company. A buy back is what it sounds like, the company gives investors cash to buy back the equity it initially issued, thereby concentrating ownership back in the original owners. This is frowned upon mostly (I would argue) because it does not provide any economic benefit except to the shareholders who receive the cash, and the original owners who now have my ownership. Everyone else loses, that cash could have gone to making the company more efficient for society, gone back to employees, etc. Put another way, a buy back benefits those who typically already have more wealth than those without (shareholders and owners of a company are probably more wealthy than most others of course).
So basically buy backs "only benefit the rich," which is why they are frowned upon. How true is this claim? Research more and decide for yourself.
TheRealRollestonian t1_j6kr6vo wrote
It's a simple calculation as to whether the company can make more by investing in the company or cashing out. Also, executives don't live forever. At some point, they want their money.
It's frowned upon because it's a good sign growth is slowing or ending. But that doesn't mean it's not a good decision for those with skin in the game.
If you own part of a company, you want to be paid, right?
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TheNoidedAndroid t1_j6l1zqh wrote
A whole bunch of rich executives hold a lion's share of the stock, but they take only a small compensation of salary.
They get, however, compensation in the form of shares of the company.
The company can produce a ton of profit by doing things like cutting corners and reducing salary, that profit can be reinvested in the company or paid out to the shareholders.
But... If it were paid out to the shareholders, they would have to pay taxes on it.
So the idea is, by using the money to artificially lower the supply of stocks through a buyback, you're increasing the proportional share each stock represents in the company.
If you have 100 stock issued, each one represents 1/100 stake in a company worth 10,000$. Each is worth 100.00$. The owners of the company can use their 1000$ profit to buy back 10 shares. Now there are 90 shares that represent 1/90 stake in the company, meaning you've effectively 'given' each shareholder around 0.11 stock for each share they own.
The issue with this is that you're basically giving people money tax-free. Executives and billionaires don't need to pay capital gains tax until they sell their stock.
Then, they have another trick! They just use it as collateral to secure low-interest loans and live lofty lives of luxury tax-free. A bank will happily 'lend' someone enough money to live an expensive extravagant life in exchange for having those assets as collateral.
So they can accumulate billions of dollars of funds, tax-free, by dodging income tax and instead inflating the value of held stock.
They don't ever need to sell that stock because they can buy anything they want using it as collateral.
So they never have to pay taxes on it.
'Buying back' stock also has unpredictable market effects. If a company is frequently issuing buybacks, people may speculate based on that pattern.
It's a big issue, a big scam, not enough people are talking about it and dissecting what it really means.
bobjoylove t1_j6kkkal wrote
It means the company has so much cash that it doesn’t even know what to do with it. So they buy back stock.
The stockholders like it because it reduces supply of shares, underpinning the prices.
The staff kinda like it as it means it may form part of a compensation package later on.
The general public doesn’t like it because it means the company is making too much profit.
The strategists are wary of it because it means the board doesn’t have any significant ideas about how to expand the business when it has a glut of cash.
jh937hfiu3hrhv9 t1_j6ktud5 wrote
This is a succinct explanation. It is offensive because it is wealth hoarding. Currency does not provide value to society unless it is in circulation. Hoarding is a disease born from fear.
bobjoylove t1_j6ku3wf wrote
Thanks. I have 3 downvotes though 🤷♂️
jh937hfiu3hrhv9 t1_j6l2y1j wrote
Flashy answers with whistles and bells impress and confuse while the rich laugh all the way to the next hoard, and people don't like to hear economies are simply based on choices made by the people with the money to make the choices. Imagining it based on external forces, complex and mysterious is much more stimulating, and believable as we have been conditioned. Like how a tantalizing conspiracy theory fills the brain with endorphins. It is easier to control the public if you keep them ignorant, sick, poor and constantly move the goal posts. This will insure downvotes.
Algur t1_j6l5ndq wrote
That's because it's not an explanation. It's conjecture based upon the assumption that buy backs only occur when a company has excess cash that they "don't even know what to do with". Buy backs are simply a financial tool and like any tool they can be used properly or improperly.
bobjoylove t1_j6n3f5l wrote
It’s not conjecture, it’s what is happening. Look at the size of the buybacks. It’s tens of billions of dollars. For example Chevron’s latest $75Bn or Google at $70bn last year. That’s a huge sum, and Google’s top 3 biggest acquisitions are Motorola at $12.5bn, Nest at $3.2bn and Doubleclick at $3.1bn.
So it could remake 3 of its biggest acquisitions and still have about $50bn for a buyback. They would then have three huge acquisitions to integrate and manage, which is a lot of work for HR and a pivot for the company to new revenue sources and a risk of being investigated as a monopoly.
They have no better idea to use the vast sums of money other than a buyback.
Algur t1_j6n6wae wrote
No. I actually did a breakdown of the pros and cons of buy backs for someone a couple days ago so I’ll copy paste it here. Some of it was geared toward that conversation so you may lack some of that context. Additionally, I’m on mobile so I apologize for any strange formatting.
Buy backs exist for many reasons, but the primary reason is to return shareholder value. It gets a bit more complicated that though.
Here are a few pros.
Flexibility - As opposed to dividends, which shareholders may expect, companies can buyback stock as needed based on their financial needs and goals. This also give shareholders more flexibility certain shareholders can "cash in", but others may want to hold on to their shares if they think the value will rise. Signaling - This is the idea that a buyback is simply a signal to shareholders that they company thinks their stock is undervalued. From an accounting standpoint, when a company buys back shares they are placed in a contra-equity account. The company will then likely re-issue these shares at a later date when they feel the stock price is at the right level. FYI, this is reason that was most discussed in my accounting courses. Capital Recirculation - Returning cash to shareholders via a buyback allows them to invest in other up and coming businesses. Tax Advantages - This will vary by jurisdiction. Long term capital gains are taxed at preferential rates, while dividends may or may not be taxed at those rates depending whether they are qualified dividends. And here are the cons:
Financial Ratio Manipulation - If executive management has certain EPS goals that are falling short they may perform a buyback artificially reach that objective. To break this down a little bit, if income is falling short of their objective then they may buy back stock to decrease the denominator in the EPS calculation. This is deceptive in my opinion and should be properly disclosed to financial statement users. Insider trading - Honestly, this one is true whether or not buybacks are illegal. As an example, insiders can buy stock in their company shortly before a new product is announced. All buybacks do is change the beneficiary of the insider trade from an individual to the business. Just so we're clear, I believe people who engage in insider trading should be prosecuted to the full extent of the law. Contribution to Income Inequality - You've already little tapped on this above. However, it's worth noting that evidence on this is mixed and should be evaluated in a case by case basis. Poor Timing - this is just the inverse of the Signaling pro above. Basically, management mistimes the market and buys at a peak rather than a trough. This can happen in all investing though and is why investments carry an inherent risk. Leverage - This is essentially the Weighted Average Cost of Capital, which is complex and I haven't worked with in awhile so I don't want to get into it at the moment lest I say something inaccurate. In summary, buybacks are neither magic bullets to increase a company’s earnings per share nor a nefarious means of enriching executives or shareholders. Buybacks are simply a financial tool.
bobjoylove t1_j6n8b91 wrote
This is a discussion about why they choose buybacks over dividends or simply hoarding. All of those scenarios occur after they have decided they can’t use the money for operations.
There’s definitely the paradox that a failing company might have sufficient cash to do a buyback to protect its stock/EPS; as it likely would not be failing if it has billions in excess. The only time that might happen is a windfall such as from the sale of a significant asset.
Algur t1_j6nftv6 wrote
>This is a discussion about why they choose buybacks over dividends or simply hoarding.
No. This is a discussion of "What does it mean when a company buys back stock and why is it frowned upon?" The answer as I detailed above is complex with various pros and cons.
>All of those scenarios occur after they have decided they can’t use the money for operations.
Incorrect. As I said above, buybacks are simply a financial tool that can be used properly or improperly. These discussions occur when management is considering how to best meet goals and objectives. Discussions regarding whether they have the necessary cash for a buyback to meet the objective will happen concurrently.
>There’s definitely the paradox that a failing company might have sufficient cash to do a buyback to protect its stock/EPS; as it likely would not be failing if it has billions in excess. The only time that might happen is a windfall such as from the sale of a significant asset.
Not really. It's incredibly unlikely that a company selling PP&E just to stay afloat is concerned about, or even has the means, to do a stock buyback.
Lemesplain t1_j6l15ng wrote
To add on, occasionally there’s a public money angle that makes it even less appealing to the general public.
A company is failing, but deemed “too big to fail,” so Uncle Sam gives that company a bunch of cash to keep them running.
6 months later, the company is doing well again, has a ton of extra money, and starts doing buybacks. Meanwhile, all of the citizens whose taxes paid for that bailout get nothing.
shaneknysh t1_j6kswtw wrote
>It means the company has so much cash that it doesn’t even know what to do with it. So they buy back stock.
Or the company has so much cash and no incentive to lower prices or improve employee compensation. There only incentive is to improve profit.
In the before time the highest tax brackets meant that at some point a company made enough then the company could pay 10000 in taxes or raise compensation by 8000. The company could then choose to pay their employees or pay the government.
The companies still made huge profits but there was incentive beyond just rewarding shareholders.
bobjoylove t1_j6ktn4g wrote
This is true but many companies include stock as compensation, releasing it over the years to retain staff using ‘golden handcuffs’. So it does have a way to may it back to the staff
Rishfee t1_j6kuwrd wrote
It may be common in certain fields, but on the whole, stock options are not what I would consider a common component of employee compensation, at least here in the US.
shaneknysh t1_j6kw73p wrote
As a recipient of stock rewards as an employee they are not a great reward. Like company scrip the stock rewards to staff are a cheap way to reward staff costing the company pennies on the dollar. And every single one I've received the stock was non voting and diluted.
bobjoylove t1_j6kwcoo wrote
In tech companies stock awards can more that double the amount you get paid every year. Often triple you base salary.
shaneknysh t1_j6l6334 wrote
What tech companies did you work for? My stock options never came close to 25% of my base salary.
bobjoylove t1_j6n3wup wrote
Not revealing any personal data, but both Fintech and Silicon Valley is paying staff this way. The annual stock award is performance based, and except for the last 2 years there has been a bull market that also swells the award granted 4 years ago.
A_Garbage_Truck t1_j6kjgg8 wrote
is it frowned upon?
its not a good look normally but its something they can do and its generally fine.
buying back stock means the company is trying to consolidate it(in order to be able to get out of being publicy listed, they have to buy back all of the stock they opened ot the public)
lilly_kilgore OP t1_j6kkh3p wrote
I guess I don't know if it's frowned upon but every time I see it mentioned it's never in a favorable light. Like "Company XYZ made record profits and spent x billions on stock buy backs" etc. I'm just trying to understand what that means and what the significance is.
MisterMarcus t1_j6kqep3 wrote
The main argument against it seems to be that companies should be doing something else with that money, such as paying their employees more, investing in better/safer/more efficient equipment or technology to make their workers' lives easier, etc. Rather than simply putting it in their own pockets as profit.
So the negativity is mostly from people like unions, who want better pay and conditions for their workers, or certain elements of the "people before profits!" strain of the political Left
Pippin1505 t1_j6kpxj8 wrote
Buying back stock and paying dividends are *exactly* the same thing: giving back cash to shareholders.
Depending on countries tax laws, one is more financially attractive (if dividends are more or less taxed than capital gains etc).
The headlines would be the same : Company is making record profits and paying dividends (instead of increasing salaries, I assume?)
High dividends / Stock buy back may make financial analysts raise an eyebrow because the company is essentially saying :
"I have no worthwhile investment to spend this on, I'll give it back to shareholders"
cookerg t1_j6ku89n wrote
If one or the other is better in different circumstances, then they are not *exactly the same*
Any-Growth8158 t1_j6kny2l wrote
It is highly frowned upon by the left, and the media is predominantly leftist, so when they report on stock buy backs it is almost always in an unfavorable light since the left is anti-capitalistic.
I'm agnostic with regards to buy backs--I don't know if they are necessarily good or bad, but I disagree with the government trying to control things. This is the company's money so they can do with it what they will. The left says that this is unfair since they're given tax breaks and loans and such. I'm more than happy with the government not picking winners and losers by not providing the companies with these sources of cash.
FoldableHuman t1_j6ks26a wrote
> and the media is predominantly leftist
lol
ThenaCykez t1_j6kkfon wrote
If a company's main owners think it is going to do really well in the future, they'll buy back stock from smaller investors. This allows them to keep more of their profits, instead of having to pay it out in dividends.
Normally, there's nothing wrong with doing that. But often companies today are whining with statements like "It's too hard in this business climate! We need stimulus money! We need tax breaks! We can't afford to raise employee wages! We can't hire full time or provide benefits!"
If they are whining that they need cash / can't provide cash to their workers, and at the same time are reinvesting to maximize their own profits with the money they could have used on their workers, it sounds like blatant hypocrisy.