As earnings season reaches the halfway point, we're once again seeing stunningly large share buyback announcements.
Yet investors are scratching their heads. These buybacks are often seen in tandem with share prices hitting fresh multi-year lows. Gone are the days when companies would resort to buybacks only when their stock was deeply out of favor, far from its 52-week high.
Why are these companies "buying at highs"? In almost every instance, they appear to have little other use for their cash. They could go out and complete acquisitions that boost the top and bottom lines. Or they could seek to offer up very high dividends. Instead, they simply are managing their business with an eye toward maximizing cash flow, and using buybacks as a primary way to reward investors.
Here's a look at companies that have recently initiated or extended share buyback programs that could shrink the numbers of shares outstanding by more than 10%.
You might notice that one company doesn't meet the 10% threshold. PulteGroup (NYSE: PHM) is included in this list, despite a share shrinkage potential of just 6%, for a pair of reasons.
First, Pulte is one of the few companies buying back shares after those shares have fallen notably from the 52-week high. Pulte, along with other homebuilders, has drifted out of favor recently as mortgage rates begin to rise and investor fears of a short-circuited housing recovery grow.
Pulte's move to buy back shares right now is also noteworthy because the homebuilding industry presumably intends to build many more homes in coming years than has been the case in recent years. One might think that Pulte would have preferred to deploy its cash on new real estate and construction. Perhaps land prices have rebounded so quickly that Pulte thinks its stock represents greater relative value than before.
Analysts at UBS, who boosted their rating on the stock this week to "buy" (with a $22 price target), note that the buyback was not the result of a sudden change of heart regarding growth strategies. "About 24 months ago, Pulte outlined a plan to focus more on risk-adjusted returns through the cycle, with an emphasis on maximizing (return on invested capital) and returning cash to shareholders where appropriate," they said, adding: "Management has deliberately been slowing down the sales pace to focus on price and maximizing profitability. We believe this is a prudent strategy given land scarcity in better locations."
The PR Spin?
Companies are sometimes accused of using buybacks as a way to call attention to their stock after a bit of controversy or near-term sales weakness. Indeed, the $1.5 billion buyback program for Intuitive Surgical (Nasdaq: ISRG) is sure to generate its own controversy. The maker of robotic surgery equipment has experienced a hefty plunge in its share price after a quarterly shortfall.
If ISRG's problems are short-lived, as management contends, then this buyback will have proved to be a good use of shareholder funds. But if the recent quarterly weakness is a sign of longer-term growth challenges, as I suggested recently, then this buyback will have looked foolhardy considering that shares still trade for more than 20 times projected 2014 profits.
The Proven Share Count Shrinker
It may have been easy to overlook the moderately sized $300 million buyback announcement from apparel licensing firm Iconix Brands (Nasdaq: ICON). But this is a company that is fast on its way to a much smaller share count.
Thanks to previous buybacks, the share count has fallen from 76 million in the third quarter of 2011 to a recent 59 million, and the just-announced buyback plan should take that figure below 52 million by the end of this year (even after accounting for some offsetting stock options). That works out to be a 32% drop in the share count, which has the direct impact of boosting earnings per share (EPS) by a commensurate amount.
Iconix Brands has never been especially popular among Wall Street analysts, due to a lack of organic growth. Management aims to acquire existing strong brands and milk them for profits, but it often does little to boost the growth profile of those brands. Yet the dual strategy of acquisitions and buybacks is making for some nifty financial engineering. EPS is on track to rise from around $1.50 in 2012 to $2.50 by 2015, according to consensus forecasts. Were it not for those buybacks, projected EPS growth would be a lot more muted.
The Book Value Play
Lastly, I can't resist the urge to take note of insurance firm Platinum Underwriters Holdings (NYSE: PTP).
The company's current market value is $1.7 billion while tangible book value stands at $1.9 billion. As I've noted before, any share buybacks completed while shares trade below book value is a no-brainer, as they can shrink book value per share at an accelerated pace. Platinum's new buyback $250 million buyback program comes on the heels of many other similarly sized buybacks. Shares outstanding stood at 66.4 million at the end of 2007 but will likely fall below 30 million this quarter.
Risks to Consider: These buyback plans are being pursued at a time when the major market averages have risen sharply in recent years. If the market pulls back, some of these buybacks will have appeared to be ill-timed.
Action to Take --> As these examples show, you want to focus on companies that are either buying back stock that trades below book value, or have a proven track record of share count shrinkage that gives a solid lift to EPS. Considering almost all of the stocks in the table above are pursuing double-digit buybacks, the resulting impact on EPS could be equally impressive.