I was recently studying the terrible record of financial institutions when it comes to repurchasing their own stock—I read that AIG, Citigroup, Lehman Brothers, Bank of America, Merrill Lynch, and Countrywide combined to repurchase over $100 billion of their own stock respectively before the financial crisis, which then got reduced to a little over $18 when you size up what remains after the financial crisis. Obviously, those are the obvious examples of when stock buybacks go wrong.
But still, the art of the buyback is something that very few companies can get right on a consistent basis, because the times when companies are flush with cash tend to be during prosperous economic times that also correspond to high stock prices, and when stocks get cheap, the money tends to get tighter, and stock buybacks don’t get purchased at their opportune times. It’s like reading the diaries of individual investors during The Great Depression—there were men out there who know that buying AT&T and Procter & Gamble with 10% dividend yields was a once-in-a-lifetime deal, but keeping their family fed and the lights on was a struggle, so they weren’t in a position to act on the opportunity they saw.
There are very few men alive that follow in the James Tisch tradition at Loews. When James’ father, Lawrence, ran Loews, he retired 26.5% of the company’s stock that existed in the 1970s. From there, he took out 37.0% of the outstanding stock in the 1980s, and then 30.4% in the 1990s, and 14.6% in the 2000s (Source). Look at what James Tisch did with Loews stock in the early 2000s—it held steady around the 550 million market. And then the financial crisis happened, and boom, Loews had lowered its stock count to 400 million by the end of 2010. During the heart of the financial crisis, Tisch was lowering the share count from 529 million to 435 million. Boys and girls, that’s how stock buybacks ought to be done.
That managerial excellence goes unnoticed because Tisch is working with some difficult businesses—hotels, Boardwalk pipelines, and stuff like that. Over the past twenty years, Loews has returned 10.41% compared to the S&P 500’s 9.47%, but really, their managerial talent is much better than that, because they are dealing with a lot of highly cyclical businesses that have had a rough time, so their outperformance is a greater testament to their talent than that one percentage point difference would indicate. Loews doesn’t get a whole lot of attention because it only pays out a $0.25 dividend each and every year, and is the kind of thing you buy when you are bringing in $80,000 annually from passive income sources while spending $60,000 per year, and have that free hand to make long-term investments that don’t require any kind of focus on improving immediate cash flow.
Needless to say, most companies we talk about are not run by James Tisch or Harry Singleton type figures. What are you supposed to do, then? If you cannot find high-quality businesses that only buy stock opportunistically when the stock is undervalued, either look for lucrative businesses that do not repurchase stock at all OR that constantly repurchase stock that has a tendency to be undervalued.
I see a lot of wisdom in someone saying, “Hey, I’m going to put a lot of my portfolio in Exxon, Wal-Mart, and IBM.” Those companies are merciless when it comes to retiring shares of their stock, and their shares really get too expensive—people think Exxon is too big to grow, IBM will have trouble adjusting to the cloud, and Wal-Mart can’t grow same store sales effectively anymore. Those expectations are false but have a bit of truth in them, and over the long term, prevent the stock of any three companies from getting expensive for long periods of time (you see the opposite with companies like Hershey and Brown Forman), and so the perpetual buyback tends to work out because the stock is not expensive.
From 2004 through 2014, Exxon reduced its share count from 6.4 billion to 4.2 billion, which actually understates the effectiveness of Exxon’s buyback because they issued stock for the XTO acquisition. Over that time, Exxon delivered returns of 11.20% annually. The dividend grew 8.5% each year over that time.
From 2004 through 2014, IBM reduced its share count from 1.69 billion to just under 1 billion. Over that time, IBM delivered returns of 9.49% annually. The dividend grew 19.0% over that time, as IBM’s earnings per share grew and the management team decided to pay out 25% of profits as dividends instead of 14% of profits as dividends like in 2004.
From 2004 through 2014, Wal-Mart reduced its share count from 4.2 billion to just under 3.2 billion. Over that time, Wal-Mart delivered returns of 6.5% annually. Wal-Mart’s dividend increased 18.5% annually over the decade, as management decided to increase the dividend payout ratio from 22% to 37%. The reason why Wal-Mart’s returns aren’t as impressive is because Wal-Mart stock was a bit on the pricey side in 2004 when investors were paying 22x profits for each share, and now they are willing to pay 13-15x profits for each share, and that shift explains why the results are lower than what you’d guess. From about 2006 onward, Wal-Mart stock has been perpetually slightly undervalued, and in this case, the example is a creature of the time period chosen that slightly distorts the reality of what you would expect going forward.
Generally speaking, Exxon, Wal-Mart, and IBM get it done on both the dividend growth and the total front simultaneously, because the management is always buying back stock that, more times than not, tends to be undervalued and therefore helps shareholders along. As far as big companies ago, this is what good capital allocation looks like once you get beyond the men like Tisch and Buffett who know exactly what they are doing and why regarding the repurchase of company stock.