VideoIn December, the board of Alanco Technologies Inc. authorized the buyback of 500,000 common shares, or about 7 percent of its total shares outstanding. To CFO John Carlson, the action was more than appropriate. After all, the company had significant capital to fund the buyback--its fiscal first-quarter sales were $2.8 million, roughly its entire sales output in the previous annualized period. In addition, its stock price was getting no respect, having fallen from $6 a share in March 2000 to 81 cents a share on December 26, about a 75 percent drop in nine months.
"Some people believe the markets are these pure vehicles that always value every stock correctly," says Carlson. "I'm not among them."
While many finance executives would agree with Carlson's reasoning-- especially his belief that his stock is undervalued--not everyone is following his lead. Indeed, according to a study by Bridgewater Associates Inc., in the last six months of 2000, only $57 billion in repurchased stock was recorded, a far cry from the $144 billion recorded in the last six months of 1998. And while the buyback frenzy is far from over, it may be taking a breather.
The conundrum, of course, is that the time to buy back stock is when share price is low. And this, it seems, is one of those times, given recent declines in the S&P 500. Yet, the economic conditions that often prevail at such times--lower sales, less cash, and tighter credit scenarios--seem to be having "a deleterious effect on stock buyback activity," explains Greg Jensen, senior research associate at Bridgewater, a Westport, Connecticut-based money management firm. In addition, numerous companies, such as Hewlett-Packard, Microsoft, and AT&T, which made huge investments in their own stock in recent years, only to see the stock prices plummet, are suffering from a bad case of indigestion.
Little wonder that finance executives who are entering the buyback market are being more diligent than ever--despite the much-ballyhooed promise of a stock price boost and the management confidence it signals. "Someone has to make the decision about how much the company wants to be on the hook at a given time," says Frederic Escherich, a managing director in the mergers and acquisitions group at J.P. Morgan in New York. "And that job often is the CFO's."
ONE MEAN HANGOVER
Historically, the adage that firms buy back when stock prices are low has held fast. The morning after the Black Monday crash of 1987, for example, "more than 700 repurchase programs were announced in the press," notes David Ikenberry, a professor of finance at Rice University. Likewise, buyback activity peaked in 1998, when stock prices faltered due to the residual effects of the Asian financial flu.
"It's almost always the case that when the stock market plunges, buybacks come out of the woodwork," says Ikenberry. "But I don't think the current malaise is a catastrophe on the order of Black Monday." Nor are the circumstances similar to the peak year, says Jensen. In 1998, he says, "liquidity was extremely good. This time around, however, companies don't have the cash flow to avail themselves [of a stock buyback]."
One reason why cash is in short supply, of course, is that in addition to going on an acquisition binge during the past few years, corporations have invested heavily in their own stock. Hewlett-Packard, for example, spent more than $8 billion from November 1998 to October 2000 to buy back about 128 million of its shares. Today, those shares are worth about half that amount. The situation is similar at Microsoft, Intel, and AT&T, where much-heralded buyback programs are now being criticized because the total value of company shares has fallen more than $1 billion over the past two years. To make matters worse, many companies borrowed heavily to fund the buybacks, contributing to some of the 45 credit-rating reductions in 2000, according to Moody's Investors Service.
The companies themselves offer no apologies. "We regularly purchase our own stock, determining through a set of metrics what we think the price of our stock should be," explains a spokesperson for HP. "If it looks like the low end of that range, we tend to buy more stock; at the high end, we buy less." The metrics are proprietary, he adds.
Still, says Ikenberry, it's fair to say that last year the market had an overinflated view of stocks' worth, influenced, no doubt, by what investors were willing to pay. On the other hand, Escherich says, "nobody buys high on purpose. And while some companies may not buy, because they believe their stock is overvalued, you're never going to read about that. You only read about the buybacks that look ill- advised a year later."
TRIGGER-HAPPY
For years, buybacks have seemed not only smart, but also routine. The theory goes, says Escherich, that whether one buys high or low, it all averages out. Some firms, for example, "are pretty steady buyers, paying both high prices and low. In effect, they are buying at average prices over time, never really making or losing money." In addition, he says, buybacks have always been more than just a "buy when the price is low" strategy. Indeed, a recent study conducted by San Diego State University professors S.G. Badrinath and N. Varaiyat for the Financial Executives Research Foundation, cited five basic reasons to repurchase: to boost stock price, to rationalize the company's capital structure, to substitute for cash dividends, to prevent dilution from stock option grants, and to give excess cash back to stockholders.
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