A Closer Look at Goldman Sachs’ Stance on Share Buybacks

By Pam Martens and Russ Martens: June 4, 2015

Wall Street Bull Statue in Lower ManhattanMaybe we’re thinking about today’s stock market all wrong. As the largest corporations in America take on more and more debt to buy back their own shares and boost dividends to dress up their earnings and attract more investors, the stock market is looking more and more like a bond market in drag as equity. Bonds are backed by debt of the company; common stock represents equity in the business operations. But the business operations are now taking a backseat to the binge of stock buybacks.

Jody Lurie, a credit analyst at Janney Montgomery Scott was quoted at Bloomberg News this week with this observation on the buyback phenomenon: “Companies have said, ‘We don’t have an ability to grow organically, so we can distract shareholders instead. When they buy back shares, all it does is optically make earnings per share look better.”

The media frenzy this week over buybacks was fueled by a research note released by Goldman Sachs which likened today’s buybacks at high market multiples to the bad investment decisions on buybacks that corporate CFOs made just before the market crashed in 2008. Goldman noted in its research release that:

“Exhibiting poor market timing, buybacks peaked in 2007 (34% of cash spent) and troughed in 2009 (13%). Firms should focus on M&A [mergers and acquisitions] rather than pursue buybacks at a time when P/E [price to earnings] multiples are so high.”

In September of last year, the Harvard Business Review published its own study on buybacks titled “Profits Without Prosperity.” The findings are outlined as follows:

“Corporate profitability is not translating into widespread economic prosperity. Five years after the official end of the Great Recession, corporate profits are high, and the stock market is booming. Yet most Americans are not sharing in the recovery. While the top 0.1% of income recipients—which include most of the highest-ranking corporate executives—reap almost all the income gains, good jobs keep disappearing, and new employment opportunities tend to be insecure and underpaid. The allocation of corporate profits to stock buybacks deserves much of the blame.”

There, in five plain English sentences, is your Doctoral thesis in who’s benefitting from stock buybacks. If you haven’t guessed by now just who it is that is driving this trend, the Harvard Business Review fills in more details:

“Why are such massive resources being devoted to stock repurchases? …in the short term buybacks drive up stock prices. In 2012 the 500 highest-paid executives named in proxy statements of U.S. public companies received, on average, $30.3 million each; 42% of their compensation came from stock options and 41% from stock awards. By increasing the demand for a company’s shares, open-market buybacks automatically lift its stock price, even if only temporarily, and can enable the company to hit quarterly earnings per share (EPS) targets.”

According to data from Birinyi Associates, for calendar years 2006 through 2013, corporations authorized $4.14 trillion in buybacks of their own publicly traded stock in the United States. Bloomberg News, citing research from Goldman Sachs, reports that companies in the Standard and Poor’s 500 “will dole out more than $1 trillion, or two-thirds of their cash, buying back stocks and repaying dividends this year.” According to Goldman, that $1 trillion eclipses the $921 billion the same firms will spend running their business and on research and development.”

The debt these companies are taking on to work this alchemy could prove to be a future time bomb in the making. In 2013 alone, corporations authorized $754.8 billion in stock buybacks while simultaneously borrowing $782.5 billion from credit markets.

Data compiled by Bloomberg shows that “Investment-grade non-financial companies issued $366 billion in bonds in the past two quarters. The $194.6 billion they sold in the first quarter was the most in history.”

According to data released by FactSet.com on March 16, Apple was the largest spender in the S&P 500 during the last quarter of 2014, making $6.1 billion in share repurchases. The study showed that on a trailing 12-month basis, Apple had spent the highest amount on buybacks, $57 billion, of all companies in the S&P 500 index.

Another concern is who is conducting these share repurchase programs for the corporation and is it being done in an opaque manner. Dark Pools owned by the big Wall Street firms, also known as ATS or Alternative Trading Systems, frequently conduct stock buyback programs. Barclays, the firm that was charged last year by the New York State Attorney General with falsifying data to customers about what was really going on in its dark pool, told Traders Magazine in September 2013 that its Dark Pool pitches its execution franchise to corporations with buyback programs:

 “…when companies buying back shares meet with institutions in the firm’s alternative trading system, both sides of the transaction benefit. Having corporate buybacks handled by the electronic trading side of the firm gives Barclays an advantage over competitors…”

Last month, Barclays, along with Citi, JPMorgan Chase, and Royal Bank of Scotland pleaded guilty to one felony count each for engaging in a criminal conspiracy to rig foreign currency markets. UBS pleaded guilty to engaging in a conspiracy to rig the Libor interest rate benchmark. More investigations of market rigging are underway.

Last year, Wall Street On Parade conducted a study of trading in Apple stock in Dark Pools for the weeks of May 26 through June 23. (Until last year, data on Dark Pool trading had not been available to the public.) During that period, Dark Pools traded over 103.6 million shares of Apple stock. The heaviest week was the week of June 9, 2014 when 39.9 million shares traded in dark pools. Goldman Sachs was responsible for trading 2,444,350 shares of Apple that week in its Dark Pool, Sigma-X, and has been in the top tier of dark pools trading Apple stock in all subsequent weeks of our review period. (On July 1 of last year, the self-regulator, FINRA, administered a minor wrist slap to Goldman for what was clearly very serious pricing irregularities in its dark pool.)

Goldman Sachs has also been an enabler to Apple taking on debt to finance its stock buybacks. Goldman Sachs was the co-lead manager with Deutsche Bank in April of 2013 when Apple launched a $17 billion corporate debt offering in order to buy back its shares and increase its dividend.  Apple’s $17 billion debt deal was the largest in corporate history at that point. Goldman was also Apple’s advisor in 1996 when the company was warding off bankruptcy and Goldman managed its $661 million convertible debt offering.

Could taking on debt and buying back shares become an addiction? One year after the April 2013 $17 billion debt deal by Apple, Goldman Sachs and Deutsche Bank co-led another $12 billion debt offering for Apple in April of 2014. So far this year, Apple has issued $6.5 billion in debt in February and another $8 billion on May 6. Goldman Sachs & Co., Bank of America Merrill Lynch and J.P. Morgan were involved in Apple’s May offering, which was specifically earmarked for share buybacks and dividends.

As we write this column, Apple is offering approximately $2 billion in yen-denominated bonds to Japanese and international investors today. The deal is being underwritten by Goldman Sachs and Mitsubishi UFJ Financial.

For all of its advice to corporations to halt share buybacks, Goldman certainly seems to still have both feet in the game.

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