Microsoft has used excess cash to purchase their own stock back from the open ma
ID: 2803686 • Letter: M
Question
Microsoft has used excess cash to purchase their own stock back from the open market (treasury stock). Comment on the amounts they have used to purchase back their own stock (use the cash flow statement) either in the last couple of years or prior to that. Why do you think this company used cash to purchase back their stock? How does this benefit the stockholders? Are there drawbacks for investors to a stock repurchase program? If you were an investor in this company would you want the company to use their cash to purchase back their stock or use it for some other reason?
"During fiscal year 2016, we repurchased 294 million shares of Microsoft common stock for $14.8 billion under the share repurchase program approved by our Board of Directors on September 16, 2013. During fiscal year 2015, we repurchased 295 million shares of Microsoft common stock for $13.2 billion under the share repurchase program approved by our Board of Directors on September 16, 2013. During fiscal year 2014, we repurchased 175 million shares for $6.4 billion; 128 million shares were repurchased for $4.9 billion under the share repurchase program approved by our Board of Directors on September 16, 2013, and 47 million shares were repurchased for $1.5 billion under the share repurchase program that was announced on September 22, 2008 and expired September 30, 2013.
2016 2015 2014
Common stock repurchased
(15,969
)
(14,443
)
(7,316
)
Common stock cash dividends paid
(11,006
)
(9,882
)
(8,879
)
Diluted earnings per share (“EPS”) was $2.10 for fiscal year 2016. Current year diluted EPS was negatively impacted by the net revenue deferral from Windows 10 and impairment, integration, and restructuring expenses, which resulted in a decrease to diluted EPS of $0.69, and favorably impacted by the adoption of new accounting guidance related to stock-based compensation, which resulted in an increase to diluted EPS of $0.05. Diluted EPS was $1.48 for fiscal year 2015. Prior year diluted EPS was negatively impacted by impairment, integration, and restructuring expenses, which resulted in a decrease to diluted EPS of $1.15."
Common stock repurchased
(15,969
)
(14,443
)
(7,316
)
Common stock cash dividends paid
(11,006
)
(9,882
)
(8,879
)
Explanation / Answer
Companies in general repurchase stock for a number of reasons such as increasing EPS ( = Net Income / Number of Outstanding Stock) so as to make the company's stock more attractive to potential investors, reducing the overall cost of capital by repurchasing dividend paying stocks and many more.
Companies like Microsoft ( and many other profitable tech titans such as Apple, Dell, Oracle,etc) routinely run up high volumes of cash. This cash form a part of the company's asset base and also lies idle without earning any returns. Utilizing this cash to repurchase its own common stock would lead to increased Return on Asset (as cash is an asset and using it up reduces the company's total asset base), improves the company's ROE(as reduction in number of outstanding stock increases ROE for the same amount of Net Income) boosts company's EPS and demonstrates the fact that the company has no investment opportunity (to gainfully employ its excess cash) better than itself. Infact an oft repeated statement in all cash fuelled share repurchase is " we did not find any investment better than ourselves". Another less usual reason for share repurchase is to withdraw shares from the market if the company's stock prices has been pummeled (which could be due to a variety of reasons such as economic downturn, sectoral recession, punitive actions by regulator, loss of company's comparative advantage,etc) and then wait for market sentiments to improve so as to reissue the stock then. Stock repurchase also demonstrates the company management's continued confidence in the company in the face of stock market pummeling thereby restoring investor confidence. Another reason for stock repurchase could be reducing the company's overall cost of capital. Companies issue stock to gain access to financing and pay shareholder's dividends in lieu of this access. If the company has cash and is not using the excess available financing but still paying dividends, then the company is essentially paying (dividends) for what it is not usingn (financing available through common stock). Therefore it makes more sense to payoff the investors once and for all thereby reducing the company's cost of equity capital (through payment of stock dividends).
One obvious gain to shareholder's post buyback is the cash received as sale proceeds for the share held by them. Another not so obvious benefit is the increased percentage ownership of the firm by those shareholders who did not sell off their shares in the buyback scheme.
However, buybacks are sometimes used by companies to artificially hike ratios such as EPS,ROA and ROE as these ratios implicitly effect stock prices.Also in many cases executive compensations are closely linked with earnings figures which can be easily hiked using buyback schemes. Therefore, investors need to watch out for such opportunistic buybacks to hide sagging return ratios.
The investor would want the company to pursue buyback using excess cash only if the company is unable to invest the excess cash gainfully in other investment opportunities. If there are investment opportunities present then it would make more sense to use the reserve cash to pursue those opportunities and prop up stock value and therefore investor's capital gains through PVGO.