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Global Outlook

Two Startling Statistics

July 9, 2014, Wednesday, 02:17 GMT | 21:17 EST | 06:47 IST | 09:17 SGT
Contributed by eResearch


One of the main reasons I do not like most stock buy-backs is that management teams tend to make the same mistakes as everyday investors. They get excited in strong markets and put money to work, often buying back their own company's shares near tops of markets and missing the opportunity when the stock price is down.

In the first quarter of the year, stock buy-backs were at their highest level since the third quarter of 2007, which was a month before the market top.

A startling statistic is that stock buy-backs in the first quarter of this year were higher than they were for all of 2009. Of course, we all remember the Great Recession of 2008 and 2009. It was a scary time to buy anything. But if a CEO is getting paid millions of dollars to make tough decisions, I would expect him or her to make those tough decisions and not simply go along with the crowd.

Want to impress me? Show me a CEO who bought back stock in 2008 and 2009. That is a CEO who realized he could create value for shareholders by repurchasing undervalued shares. A CEO who buys back stock today most likely is simply sitting on too much cash and has to do something with it.

But it is not just stock repurchases where CEOs show that they make common mistakes. They also tend to make acquisitions at the wrong time.

Paul J. Linn, in Money magazine, reported that KPMG created a study looking at transactions in the late 1990s and 2000s. The study concluded that 66% to 80% of mergers and acquisitions were not beneficial to the company.

Linn even went so far as to call CEOs terrible market timers. He wrote, "History shows that corporate buyers are like amateur investors - they wait until after trends develop to make a move, at which point they are forced to pay up.”

In 2000 and 2006, near the tops of the market, CEOs spent more than $1 trillion in acquisitions. During both of those periods, the S&P 500's price-to-earnings (P/E) ratio was more than 25. Contrast that with 2009, when the S&P P/E was 13 and CEOs did only $700 billion worth of deals.

If they were doing a good job on behalf of shareholders, those figures would be reversed.

This is why I like a sound dividend growth strategy. It does not depend on the whims of a CEO who may have ulterior motives for spending shareholders’ money on acquisitions or buy-backs. He may receive a bonus for doing deals or increasing earnings per share. He may be trying to impress his mistress or prove something to his Daddy or is in a bad mood and wants to feel powerful. Or he could just be human and get caught up in the same fear and greed emotional cycles that many others do.

But when the company pays a dividend, especially when it is part of a stated dividend growth policy, the company (and management team) has specific goals to hit and must pay those funds to shareholders or feel their wrath. After that, if they want to engage in boneheaded decisions, they are free to, but only after shareholders have been paid first.

Generally speaking, companies with stated dividend growth policies tend to be more conservative and better fiduciaries of investors’ capital.

CEOs are people too. They prove it every day by doing the same things as everyone else. If they pay the dividend first, then they will partially limit the damage they can do.

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