Stock buybacks have never been more popular on Wall Street — or more vilified in Washington.
Companies spent $1 trillion buying their own shares last year, but the corporate-finance tactic gets no love from Sens. Chuck Schumer and Bernie Sanders. They want to restrict buybacks unless a company pays workers at least $15 an hour and offers pensions, health care and paid sick leave.
Sanders and Schumer argue that instead of repurchasing shares, companies should be investing in their businesses — hiring workers, building factories and so on. The trouble is, there’s no evidence that buybacks lead companies to skimp on such investments.
No firm would stay in business long if it passed up profitable investment opportunities, but we shouldn’t want managers making iffy bets for the sake of empire-building. Better to return cash to shareholders than use it to buy a spare corporate jet, or make an acquisition that’s likely to destroy value.
That’s all buybacks are: a way of returning cash to investors. Sanders and Schumer refer to them as “corporate self-indulgence,” but they actually impose discipline on management.
“If it sits around in the firm, cash has a tendency to burn a hole in managers’ pockets,” says Mark Leary, associate professor of finance at Washington University’s Olin Business School. “From a shareholder value perspective, you should return excess cash to shareholders.”
Those shareholders typically reinvest the cash in other companies — including younger firms that are, in fact, making capital investments and hiring workers.
“If a company has no attractive projects, it’s better to return that cash to shareholders than to expand its operations just for the sake of expanding,” says Stan Veuger, an economist at the American Enterprise Institute. “Shareholders typically reinvest the money their portfolio throws off.”
A buyback ban would make our capital markets less efficient while doing nothing to create jobs or raise workers’ wages. The version proposed by Schumer and Sanders also would discriminate against certain industries.
Firms that employ mostly high-wage workers, such as Apple or JPMorgan Chase, might qualify for buybacks. The majority of companies probably would not. Technology and financial companies’ shares would rise at the expense of firms — and their workers — in lower-wage sectors like retailing and food service.
Charles Cuny, an Olin School senior lecturer, points out another unintended consequence: “If stock buybacks are important ... then a firm with sub-$15-an-hour employees might be tempted to subcontract the associated work out of the firm, in order to avoid this constraint.”
In other words, never underestimate businesses’ ability to find ways around a flawed law. Schumer and Sanders already anticipate that companies might return cash to shareholders by paying higher dividends, so they write that Congress “should seriously consider policies to limit the payout of dividends.”
That’s dangerous thinking. The value of a company’s shares lies in the stream of future cash an investor expects them to produce. If you restrict both dividends and buybacks, it becomes very hard to unlock that cash.
In such a world, companies have a harder time raising money on the stock market and investors face lower returns in their mutual funds, IRAs and 401(k) plans.
Sanders and Schumer may be trying to strike a blow against inequality, but what they’re proposing would instead be a blow to prosperity.