IN-DEPTH: To buyback or not to buyback?

As the coronavirus pandemic continues to cause stock market uncertainty, companies are re-thinking their balance sheets, with most postponing share buybacks and dividend payments until the volatility is over.

In fact, some companies that have continued to buy back shares have received backlash for doing so while uncertainty clouds jobs and businesses.

Fewer companies have been subjected to activist demands for dividends, returning cash to shareholders, and buybacks globally year-to-date, compared to the same period last year. Only eight were pushed for dividends, compared to 14 in the same period last year, while 11 were asked to repurchase shares, down on last year’s 18. The change was not as noticeable in the U.S., however, where demands for dividends stayed the same at five year-to-date, compared to the same period last year, and there was only one less demand for share repurchases.

Activists against repurchases

Some activist investors have even begun pushing to cancel dividend payments, with Lagardère canceling its 2020 payments after being told to do so by Amber Capital. The company will instead create a solidarity fund for its employees and contribute 5 million euros deducted from its planned dividend payments. In a March statement, Amber pushed the company to suspend the dividend payment “in order to boost the company’s liquidity and therefore safeguard the business and its employees.”Amber criticized the company’s capital allocation strategy noting that Arnaud Lagardère is incentivized to pay out dividends in order to keep himself afloat.

Telecommunications giant AT&T is also among those shedding plans to repurchase up to $4 billion of its own shares, saying it wanted to maintain financial flexibility in light of the pandemic. AT&T had announced a settlement with Elliott Management in October 2019 and released a three-year action plan.

Kepler Communications Senior Consultant Michael Henson believes those taking a critical view of companies that “risk facing a future liquidity crisis for a share price and EPS bump” are right to do so. Unless the company “has sufficient cash on hand to fund a repurchase program without underfunding other parts of its business or sacrificing a cash cushion in an ailing economy,” Henson believes companies should “absolutely” hold off on share repurchasing until the crisis has passed.

“Capital allocation priorities should be to ensure resilience in the face of a severe and potentially prolonged economic shock and fund continued operations (including preserving jobs and employee remuneration),” noted Henson. “All unnecessary costs should be avoided if either of those are in question and that includes spending on a share buyback.”

Reputation risks

Emboldened by the low stock prices, some activist investors are still pushing companies to repurchase shares, however. In March, Raging Capital Management began urging Park Aerospace to use its “cash-rich balance sheet” to “aggressively” buy back stock. According to the activist, Park should “take advantage of the current stressed market environment” and use its cash position, which stood at $140 million (around half of its market capitalization as of April 20) at the end of 2019, to expand its share buyback program. This would “further enhance and bolster long-term shareholder value,” the activist reckoned.

The company said it will review the activist’s calls but that any action on buybacks would have to wait until May. In a statement, the New Jersey-based aerospace company noted that it already has an existing buyback program for 1.4 million shares. It also said the company is currently in a “black-out” period and therefore is not able to buy its stock on the open market until after it announces fiscal year and fourth-quarter results on May 15.

“Rightly or wrongly, share repurchases have become somewhat of a taboo, in much the same way as executive bonuses became taboo in the aftermath of the last financial crisis,” MacKenzie Partners Executive Vice President David Whissel noted in an email to Activist Insight Online. After the President and members of Congress suggested buybacks should be restricted or regulated, Whissel believes “no company wants to unwittingly become caught up in a national political controversy, so we are not surprised that some companies are shying away from pursuing repurchases in the current climate.

Strong cash flows

Henson does see an exception to the rule, however, and noted that as long as a company has a “rock solid balance sheet and substantial cash reserves,” buybacks shouldn’t be a problem.

“If done well, buying back shares is one of the best investments a company can make,” Whissel noted. “There are certainly companies out there with strong cash positions and stock prices that are undervalued due to the recent market decline. In those cases, companies should weigh the benefits of buybacks against the potential reputational risk of doing so.”