Company share repurchases can boost investor returns -- but only if the shares are a good deal.
Listed below are nine companies buying back stock at deep discounts to the market, based on earnings.
When companies buy back stock, they reduce the number of outstanding shares and boost their earnings per share. All else held equal, that should make each remaining share more valuable. And repurchases, unlike dividends, aren't taxable for shareholders.
Right now, with yields on cash stockpiles near zero, stock buybacks should offer an easy way to turn idle funds into something shareholders obviously like: shares.
There's just one problem.
History suggests companies tend to spend the most money on shares when profits are plumpest. This, unsurprisingly, also tends to be when share prices are riding high (like at the peak of the U.S. real estate bubble). When profits and share prices plunge (like during the financial crisis), buybacks dry up. These buy-high, hide-low strategy can turn repurchases into a money loser.
Investors, then, should regard share repurchases as a plus only among companies trading at sizable discounts to the broad market. The companies below have price/earnings ratios in the single digits, versus a ratio of about 15 for Standard & Poor's 500-stock index.
Health insurer Aetna (AET) spent $581 million on its stock last quarter, or 4.5% of its current stock market value. Wellpoint spent $494 million, or 2.5%. Both companies face heightened government scrutiny over the portion of premiums spent on health care and increased competition. But they also should have new customers, as states set up health insurance exchanges as part of a new federal law. Both stocks sell for eight times earnings.
Dell (DELL) spent $400 million on stock last quarter, or 2.2% of its current stock market value. That's less than half what it spent in the same quarter a year ago, and on Thursday the reason became clear: The company announced its first-ever dividend payment (current yield: 3%). Hewlett-Packard (HPQ) bought back $365 million worth of stock last quarter, or 1% of its current market value. Both companies are struggling with declines in their personal computer businesses, but both make the bulk of their money from corporate and enterprise customers and are pushing into data centers. Hewlett-Packard trades at four times earnings and Dell, six times.
Similarly, hard drive makers Seagate (STX) and Western Digital (WDC) trade at four and five times earnings, respectively. Both face a customer shift from PCs to tablet computers, which don't use mechanical hard drives, but both are also cashing in on sales to massive data farms. Last quarter, Seagate spent a whopping 9.5% of its current market value to buy back stock, and Western Digital spent 5.7%.
Defense contractors L-3 Communications (LLL) and Northrop Grumman (NOC) face likely revenue declines from the winding down of operations in Iraq and Afghanistan and a rising focus on deficit reduction. But even without growth, both have rich profit margins and generous cash flow. L-3 spent $315 million on stock last quarter, or 4.6% of its current market value, while Northrop spend $295 million, or 1.8%. Both stocks sell for nine time earnings.
Finally, GameStop (GME) sells for seven times earnings. Investors are worried about the popularity of smartphone and free online games -- where publishers make money from small purchases of virtual goods -- as well as about the possibility that game publishers will shift to download sales, doing to GameStop what iTunes did to record stores. But game files are large enough to delay such a shift for years, and a new crop of video game consoles could give GameStop stock fresh life (see "What's in Store for Store Stocks"). Last quarter, GameStop spent $136 million on its stock, or 5.2% of its current market value.