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Comment by nostrademons | Hacker News Reader

This is how its supposed to work. The whole reason stocks have fundamental value in the first place is because they're claims on the future profits of the company. 100% of a company's earnings legally belongs to the shareholders; it's nice to see them actually returned to the shareholders (vs. blown on overpriced acquisitions) for a change.

It does mean the end of a cycle, though, and not just a "stocks go up, stocks go down" cycle. It's rational for corporate management to retain earnings and invest in future growth opportunities when the expected returns from those growth opportunities are greater than the cost of capital. That they're returning capital to shareholders, even in an era of historically low capital costs, indicates that they can't find growth opportunities at any price.

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Or, market fundamentals have hit or crossed a marginal point where the probability of a contracting market is beginning to diminish capital valuations. They’re keeping stock price trends positive at the expense of cash on hand.

I’m not sure of this argument, but I sense meaning going on at the margin.

My Econ professors had a saying. Something like “you know a correction will start when the last stalwart holdout is convinced he can make money in this market [meaning no one else is left willing to jump in].” Paraphrasing a decade old quote.

> The whole reason stocks have fundamental value in the first place is because they're claims on the future profits of the company.

If earnings are low then so is the free cash flow too. In which case most of these companies are borrowing cash to pay out dividends which is not a good sign.

Similarly, buybacks are supposed to be value accretive. Paying for it using borrowed cash is not adding value. Additionally, buying back a stock which is trading well over its fundamental value is same as overpriced acquisition.

Corporate profits were at historic highs up through the end of 2018. That's why everybody was complaining about greedy corporate profiteering. Many of them are sitting on huge cash hoards (eg. Apple and Oracle both have about $65B in cash & short-term investments), which is why they're returning cash to shareholders.

Oracle and Apple are exceptions than norm. Many companies have shown growth on back of the low interest rate environment. For them to spend money for dividends and buybacks in excess of earnings is not good. Buybacks are especially concerning if they happen at well above company's fair value. That is actually throwing good money to buy an expensive company.

That's who we're talking about in this thread, though. vonmoltke posted the actual list of companies doing buybacks. Apple is #1 and Oracle is #2; the remainder of the top 5 is rounded out by Wells Fargo ($253B in cash, albeit as a bank), Microsoft ($133B in cash and short-term investments), and Cisco ($46B in cash and short-term investments). Together they're responsible for over 20% of the $800B in 2018 share buybacks. The top 20 is responsible for about 45% and includes companies like JP Morgan, Bank of America, Facebook, Alphabet, Starbucks, Pfizer, Citigroup, etc.

Arguably they're buying back stock now because they believe it's undervalued. The other prevailing narrative in the media today is that corporations are too powerful and are bleeding the American consumer & worker dry. Which is it? If they're actually bleeding the American consumer dry you'd have to be an idiot not to want a piece of the action, while if they're overvalued and about to collapse there's no reason to be afraid of them.

To determine "who is doing buybacks", don't we need to normalize by market cap, annual revenue or profit, or some similar metric?

Apple having the largest buyback amount doesn't seem to tell us a ton by itself, given that they are among the top few most valuable companies in the world.

Depends on the conclusion you're trying to draw from the data.

The headline is "Dividends and buybacks now larger than the total reported earnings of the S&P 500." For that conclusion, it's absolutely relevant that Apple et al are doing the buybacks and that their market cap dwarfs many of the companies on the S&P 500 (which has a threshold of $6B to enter, vs. close to $1T for Apple). Apple deciding that they're going to return some of the cash to shareholders they've been stockpiling for the last 5ish years would dwarf the entire earnings of most of the bottom 200 stocks in the S&P 500. That's not a report on weakness or danger in the market, it's a report of what a small number of companies are doing with a large cash hoard. It's sorta like reporting that "Residents of Medina, WA lost more money to divorce in 2019 than they made in total wages" without reporting that Jeff Bezos is a resident.

Ah ok, I see what you mean. Thanks.

> indicates that they can't find growth opportunities at any price.

This is a great way to put it! Thank you. Would it be fair to say that this suggests the market isn't really expanding and has essentially become zero-sum (or technically I guess it could mean that expansion is free, but that seems unlikely)?

The public market isn't really expanding and has essentially become zero-sum. This doesn't preclude the existence of other capital markets that might actually be taking share away from publicly-traded companies - for example, late-stage VC/PE financing (a la Uber, Lyft, and most other Silicon Valley unicorns), crowdfunding, or cryptocurrency ICOs & STOs.

Nature usually abhors a steady-state: when you think you've reached one, it often means that there's a competitor that's too small for you to see but growing exponentially.

Good distinction, thank you. I wonder if there are stats somewhere to see what percent of capital is in public markets vs private.

Also, now that so many of the unicorns like Uber and Lyft are going public, I wonder how much of the market is currently still private. Not to mention, many of the unicorns are horribly unprofitable and potential a net negative for the market.

Even if the companies never expand and the stocks are priced perfectly the market is not zero-sum. It's still an asset that produces value and pays back every year. There are people for whom it makes sense to own something that gives steady returns and there are people who for whom it makes sense to have cash on hand. Trading might be zero-sum which is great for everyone but owning stocks isn't.

Fair point, stocks do have inherent value even if they are just paying dividends. I guess that in that case it's market growth that is zero sum (eg, one company growing must mean that another company is shrinking).

No, the market can still expand, it's just that shareholders (as proxied for by boards and management) would today rather have the marginal dollar in pocket rather than invested in some growth opportunity. Companies have invested billions in growth opportunities in past decades and we're currently seeing how the returns from those investments play out, and that's where today's growth is coming from. There just aren't as many good places to put money to work in the market right now.

Good point. And this is why value stocks (that return money to shareholders) outperform growth stocks over time.

Naive question: istn't the idea of "growth stocks" to become value stocks at some point?

Yes - stocks don’t stay in their category forever. Most start needing capital, and then eventually return in.

But they aren't just using their earnings. They are borrowing too.

That just means that at current interest rates, the stock's forward P/E exceeds the rate of interest. It's rational to borrow money to buy stock if the earnings spun off by the stock exceed the rate of interest. You're basically arbitraging against the bank: the bank gives you money to buy out people who think the stock is overvalued, you give them a set amount of interest for the money, and if it turns out you're right and the stock's future earnings exceed the price of that money, you pocket the difference at the expense of people who left the market. If you're wrong and earnings are less than the interest rate, it's reflected in net income, the stock drops, and you (and the rest of the shareholders) eat the difference, often in a dramatic fashion.

With low interest rates, high corporate profits, and low growth, I'd expect to see a lot of debt added to balance sheets; it's a way to lever up the capital structure to the benefit of existing shareholders, as long as profits remain high and interest rates remain low. (And corporate bonds/loans are usually fixed interest, so the interest rates are locked in until they need to go back to the debt markets.)

> If you're wrong and earnings are less than the interest rate, it's reflected in net income, the stock drops, and you (and the rest of the shareholders) eat the difference, often in a dramatic fashion.

Or you’ve already moved on, and the next CEO eats the difference. The incentives between those two vary wildly.

> it's a way to lever up the capital structure to the benefit of existing shareholders, as long as profits remain high and interest rates remain low

It’s only rational up to some level of indebtness (and often companies go too far). If you take on debt just because you can, how are you going to delever the balance sheet when earnings go down and interest rates go up?

The S&P Global source data[1] has a list of the top 20 Q4 buyback totals, as well as their buyback numbers for selected historical periods. It would be interesting to see how much debt those companies took on during those periods. The top company over the past 5 years, Apple, has been notorious for sitting on a massive cash reserve.

[1] http://press.spglobal.com/2019-03-25-S-P-500-Q4-2018-Buyback...

Our tax policy encourages this. You can write off the interest you pay to bondholders, but you can’t write off the dividends you pay to shareholders. Everyone involved (except for the government) is better off if you sell bonds and buy back stock.

Prior debt holders get punished as companies lever up. (But they usually don’t get a say in the matter unless they have strong covenants)

Heavily indebted companies struggle to survive distress too.

The recent reform puts some limits on deductibility of interest expenses, but I don’t know what is the practical impact of that cap (30% of adjusted taxable income = earnings before interest, depreciation, amortization, and taxes).

Theoretically as interest rates go up and corporate taxes go down the benefits of such leveraged recaps should soften. On a stand-alone basis if a firm needs to increase leverage to find an optimal cost of capital, adding debt and buying back stock is a reasonable strategy.

100% of a company's earnings legally belongs to the shareholders

That's simply not true. Next you'll be telling us it's illegal for a company to do anything that isn't about maximising shareholder value.

Who do they belong to if not to the owner of the company?

"Shareholders" and "owner" are not synonymous terms. Shareholders don't "own" the company; they hold shares in the company.

https://www.lawschool.cornell.edu/academics/clarke_business_...

"First, shareholders do not own business corporations, nor do they own the assets of the corporate entities... Shareholders own shares."

Somewhere back in the eighties, it became popular in the business community to say that the purpose of a company is to maximise shareholder value. That opinion and others like it have now so saturated society that people take it as received truth, but it's not. Likewise the idea that shareholders are owners.

Now, as in many things, laws do change over time and if enough people continue to believe this hard enough for long enough, there will eventually be enough case law that it ultimately become true. One day, it might be true, and law. That day has not yet come.

You are right at least in part, strictly speaking the owner(s) of a company do(es) own its assets only in an indirect way.

But I don't get the "shareholders do not own business corporations" bit. Would a sole owner "own" a business corporation? Do real estate owners "own" real estate or do they own "bundles of intangible rights"?

But I don't get the "shareholders do not own business corporations" bit.

Well, why would they? At risk of horrifically simplifying things, I have a company, I decide I want some more money. I sell you the right to vote in some things that concern the company, and I sell you a share of any dividends that get paid out in the future. That's what you get. Do you now own the company? Do you own the company assets? I didn't sell that to you. I sold you the right to vote in some company meetings and decision making processes, and I sold you a piece of any future dividends that get paid out to you and others like you. Doesn't sound like "owning" something to me.

> I have a company

What does that mean? You don’t “own” the company, do you?

Certainly not in the same way that I can own a pen or a nice wristwatch. Now we're getting somewhere! So what does it mean to "own" a company?

If the company is just me and a bag of tools, fixing people's cars on their driveway, do I own that company? What does it even mean for me to "own" it?

You're making a good argument to point out that 'ownership' takes a lot of different forms. And an interest in one class of thing isn't the same as others. Ownership comes with differing, restrictions, rights, and responsibilities depending on the thing.

An opinion of mine the ownership of a company through stocks is secondary to stocks being a quasi-cash financial instrument like bonds.

Wasn't there that Michigan Supreme Court decision that states that was precisely the purpose of a company -- to maximize shareholder value?

You're thinking of https://en.wikipedia.org/wiki/Dodge_v._Ford_Motor_Co. , which was literally a century ago.

If you scroll down to "Significance", you can read for yourself that it's by no means universally accepted ("that this interpretation has not represented the law in most states for some time").

Let's come forwards a little; as the U.S. Supreme Court recently stated, "modern corporate law does not require for-profit corporations to pursue profit at the expense of everything else, and many do not do so."

Where this is basically going is that the common belief - that there is some clear, absolute law that totally says the shareholders are the owners and the company is all about giving money to them - simply isn't true.

Thank you! I just remember reading about it before, but didn't know much more. Thanks for the info, and definitely glad that's changed!

It is true. The company is owned by its shareholders, collectively.

Even if they did "own" the company (which they don't, unless you choose to define the terms identically - "owner" and "shareholder" are not synonymous), just owning a company doesn't mean all the earnings belong to you.

Here's some legal people on the subject; https://www.lawschool.cornell.edu/academics/clarke_business_...

Key phrases include "shareholders do not own business corporations, nor do they own the assets of the corporate entities".

Now, there are other opinions, but the very fact that this is an ongoing discussion suggests strongly that it is not as cut and dried as you claim.

They do, collectively, own most companies. It is possible to create shares that do not represent an ownership interest, but most companies are structured such that they do. Shareholders are generally able to reconstitute the board, which can appoint a CEO, who is in control over the assets of that company. They may then appoint a board, who would appoint a CEO who would liquidate the assets and return them as a dividend to the shareholders. That is the sense in which they own the company.

Now, some companies sell shares that don't have voting rights (e.g. Google, Facebook). Those are a bit more nuanced. Though even in those cases, there are voting shares, they're just not traded in the public markets. So, the statement that the company is owned/controlled by its shareholders remains correct.

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