---
title: "Are Stock Buybacks Good for Value Investors?"
description: "In the 2010s companies have been buying back their own stocks more than ever. Is this good for value investors?"
canonical_url: https://trendshare.org/how-to-invest/are-stock-buybacks-good-for-value-investors
markdown_url: https://trendshare.org/ai/are-stock-buybacks-good-for-value-investors.md
published: 2018-09-24
last_updated: 2020-12-31
content_license: https://trendshare.org/about/disclaimer
---
# Are Stock Buybacks Good for Value Investors?

Source: https://trendshare.org/how-to-invest/are-stock-buybacks-good-for-value-investors
Updated: 2020-12-31
Since the 2008 financial crisis, some of the best companies in the world
have been sitting on huge piles of cash. [Apple](/stocks/AAPL/view),
for example, achieved the largest market capitalization in the world (and [introduced a dividend program in 2012](https://www.apple.com/newsroom/2012/03/19Apple-Announces-Plans-to-Initiate-Dividend-and-Share-Repurchase-Program/)).

[Paying dividends returns money to investors](https://trendshare.org/how-to-invest/why-do-companies-pay-dividends), and it also demonstrates that the company itself is making more
money than it can profitably invest. (At least, that's the theory; a company
like Apple, in the technology sector, invested a huge amount of its profits
into research and development every year to become a market leader. Having
achieved that dominance, can it double its [market cap](https://trendshare.org/how-to-invest/what-is-market-capitalization)?)

Apple also announced [a stock buyback program](https://trendshare.org/how-to-invest/why-do-companies-perform-stock-buybacks) near the same time. As the linked article explains,
buying back shares allows a company to invest its profit in shrinking the
number of owners of the company, making the remaining owners own a little bit
more of the company (and, if profits hold, making their ownership that much
more valuable).

Does this work in practice?

## Stock Buybacks Compete with Investing in the Business

A dollar spent on dividends is a dollar that can't be spent on buying back
shares or investing in the business. That's straightforward. What does it
mean?

Before Apple had the dominant portable music player, they had to invent it.
At least, they had to figure out how to make a portable music player with a
simple interface. Then they had to create iTunes. Then they had to create the
iTunes store. Then they had to license music from publishing companies and
royalty organizations.

None of that was free.

While Apple was doing this, they were also figuring out how to take their
desktop operating system (Mac OS X) and put it on the iPod.

While Apple was doing this, they were also figuring out how to make a phone
that was also an iPod that also ran the same operating system as their desktop
and laptop computers. (At least, more or less.)

While Apple was doing this, they were also figuring out how to make an App
store and how to allow third parties to write apps for their phones and
iPods.

Oh, and Apple was also inventing the iPad at the same time.

From 2021 all of this development seems obvious and straightforward: music
player, phone, tablet, streaming service, application platform, platform
unification.

It wasn't. It wasn't free either.

Apple had to invest millions (billions?) in research and development and
manufacturing and legal agreements and licensing and logistics.

Those bets paid off. Yet if Apple had bought back its stock to the tune of
hundreds of millions of dollars (or paid out hundreds of millions of dollars in
dividends), would it have had the money to invest in this obvious chain of
technical development?

Maybe a company as rich as Apple is would have. Not all companies are as
successful as Apple, however.

## Do Stock Buybacks Meet Long-Term Investing Goals?

CEOs are hired by boards of directors, and boards of directors are elected
by investors, and investors want the prices of the stocks they own to go up.
Thus, CEOs are hired to make the prices of their stocks go up.

It's easy to see why stock buybacks make share prices go up in general: more
demand pushes prices higher, and fewer outstanding shares pushes the ratio of
earnings per share higher. Both make share prices go up, in theory.

Do they make the companies themselves more valuable?

Imagine a less successful company called Orange Electronics. Orange didn't
invent a market-leading music player. It didn't devise a powerful phone. It
doesn't have a successful application platform. It does have millions of
dollars, and every quarter it buys back more and more stocks and cancels
them.

If Orange keeps making $100 million a year, has 100 million shares
available, and cancels 10 million shares a year, its earnings will look better
*per share* every year. If you end up the lucky owner with the last
share and all the other 99,999,999,999 have been cancelled, you'll have a share
worth $100 million in earnings every year.

That doesn't necessarily mean the business is worth owning, *if it's not
growing*.

Those dollars spent on buybacks could have been spent on research or finding
new markets or improving productivity or anything that could make those $100
million in profits $110 million next year, but they weren't.

If a CEO's job is to improve the stock price right now and not to make the
business better, that CEO might pitch a buyback instead of better
ways to spend that money.

## But Are Stock Buybacks Bad?

Stock buybacks aren't necessarily bad. They're not necessarily good.

A market leader like Apple that doesn't have a great place to park hundreds
of millions of dollars might indeed be doing its investors a big favor by
reducing the number of shares outstanding. (Keep in mind, they can only buy
shares from people who want to sell. Maybe people are retiring or rebalancing
or otherwise want to get out of owning Apple, so it's not a bad thing to have
more [liquidity](https://trendshare.org/how-to-invest/what-is-liquidity) in Apple shares.

A company pondering buybacks might otherwise consider raising employee
salaries, hiring more people, or doing other things that will grow the economy
(and not just shrink the number of shares outstanding). Henry Ford famously
wanted his workers to be able to afford his products, for example.

Other implications are more complicated to measure. If your company pays
quarterly dividends, you'll receive your dividends every quarter. You can do
with them what you like. In the case of a buyback, the gain you get is
theoretical until you sell—and one bumpy year next year before you sell
could wipe out all of your paper gains you weren't able to take advantage
of.

Furthermore, the tax implications of the timing of dividends and sales are
unique to your particular position. (When is the company taxed on this money?
When are you?)

Worse yet, some companies have taken to taking out low-interest loans to
perform buybacks, increasing the liabilities on their balance sheet and
injecting a boost to their share price despite that. Who knows how those will
turn out?

## Should Value Investors Be Wary of Buybacks?

A healthy company buying back its stock in a healthy way is a good thing. A
company buying back its own stock isn't necessarily doing so in a healthy way;
you still have to do your research to figure out where the money is coming
from, what it's going to do, and what the opportunity costs were to spending
those dollars.

A healthy company worth owning over time will repeatedly produce value for
its owners—real value, from selling goods and services, not merely from
shuffling paper around. Beware of gimmicks and continue look at financial
statements to distinguish between healthy buybacks and accounting tricks.