The Buyback Catch

With stock prices plummeting, why isn't Corporate America pumping up its repurchases?

In the future, Cypress expects its mean price-to-sales ratio to move up as a result of the company’s focus on high-growth markets, namely datacommunications and telecommunications, says Hernandez. While the semiconductor industry grew 31 percent last year, Cypress’s sales in its last fiscal year jumped 81 percent, largely based on sales in the datacommunications and telecommunications markets. “This outlook has given us the comfort to buy back our stock at a P/S of 2.3 or lower,” he says. In the fourth quarter of 2000, Cypress’s board announced the repurchase of 10 million shares overall, of which about 80 percent had been bought as of January.

At Ciber Inc., justifying a buyback comes down to an investment decision. David Durham, CFO of the $600 million computer services integrator, runs two test cases to determine whether to buy back stock or to invest in a money-market fund–”with the financial question being, ‘which is better for our earnings per share?’” he says.

Basically, Durham takes into consideration the difference in total net income between investing excess cash in a money-market fund, which incurs a 40 percent tax hit, and buying back stock. And based on that evaluation, Ciber announced a $5.9 million buyback in June 1999, of which 4.6 million shares had been repurchased by the end of December. “In the December 2000 quarter,” he explains, “we reacquired 1.4 million shares, which increased our EPS by .19 cents–4 percent more than would have been the case had we not repurchased them and left the cash instead in investments.”

Of course, growing companies such as Alanco admit to using more subjective criteria to justify a buyback. “Emerging companies don’t have a history of earnings, [so they don't] know what their P/E is,” explains Carlson. “Unlike mature companies that can use a matrix based on these metrics [to gauge stock undervaluation], we must rely more on a subjective assessment of our potential versus our competitors’. If this analysis tells us we’re being undervalued, it enhances the prospects of a buyback.”

OUT OF OPTIONS

If such gut instinct came into play at companies that issued buybacks to offset options last year, it obviously wasn’t a surefire metric. Ironically, though, the low valuations being assessed by Wall Street may be a reason buyback activity has slowed. “When stock prices are low, the exercise of stock options is also low, thus moderating the need to neutralize them via a share repurchase,” explains Escherich.

That’s not to say that some companies aren’t still using buybacks to offset options. NCR Corp., for example, announced a program to repurchase $88 million of its stock in fourth-quarter 2000 to fund outstanding employee stock purchase plans, including stock options. “This is an open authorization, meaning we can choose to go in and buy or not to,” explains CFO David Bearman. And Bearman fully expects to go in based on “an analysis of what we think the stock price will be at some later date.”

Few can argue with his track record. NCR announced two major stock repurchases prior to 2000: a $250 million buyback in early 1999 that was completed, and a $250 million buyback later that year, of which $70 million to date has been purchased. Both were predicated on expectations of higher share price. “We made the first repurchase when our stock was in the mid-30s, and as of today, we’re at $45 a share,” says Bearman.

IN HINDSIGHT

Can any lessons be gleaned from buybacks that have backfired? “It is difficult to guard against buying stock that later devalues,” acknowledges Bearman. In making buyback decisions, he says, “we look to the future in terms of expected progress. In other words, you don’t second-guess yourself on what went down this year, because next year it might go up.”

As the NCR announcement illustrates, there are plenty of companies that still believe this may be their year. In January, for example, the newly formed AOL Time Warner Inc. announced a $5 billion stock buyback program that began last month. In addition, 47 other companies, according to Securities Data, announced repurchases, including Newport News Ship Building Inc. and MAF Bancorp.

Says Ikenberry, “There are fundamentally sound reasons for companies to buy back stock.” And while buyback activity may “ebb and flow” depending on economic circumstances, “it is absolutely not going away. Let this bear market run a bit longer, and then see where we stand.”

Russ Banham is a contributing editor of CFO.

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