The Rake
November 12, 2019·10 comments·Money
Stock buybacks are celebrated as returns of capital to shareholders. But while companies buy back billions in shares, they simultaneously issue new shares to executives at a rate of 18-27% of the buyback value. Management captures a hidden rake from every transaction, and the mechanism is so obscured by narrative that almost nobody notices it happening.
• The buyback narrative masks a wealth transfer. JP Morgan spent $20 billion buying back shares in 2018 while issuing $3.5 billion in new shares to management. This happened simultaneously, but the two transactions are never discussed together.
• The extraction rate is consistent and massive. Over three consecutive years, management captured 18-27% of buyback value through new share issuances. This isn't accidental or variable. It's systematic.
• These shares go almost entirely to senior executives, not employees. Less than 3% of dilutive share issuances went to employee stock programs. More than 97% benefited senior management. Most Fortune 500 companies follow this same pattern.
• The mechanism works precisely because it's obscured. Shareholders focus on stock performance and don't track the denominator shrinkage created by simultaneous issuances. The "return of capital" narrative crowds out the simultaneous creation of new capital for executives.
• This is wealth concentration disguised as corporate governance. Management has essentially set the rules of its own compensation through board capture, creating a structural rake that extracts billions annually across the entire corporate sector.
The Why of Epsilon Theory
- Direct access to leading narrative-tracking technology across global news.
- Deep analysis of how narratives shape markets, politics, and society.
- An active online community of independent voters, investors and thinkers.
Looking for Deeper Insights?
Unlock exclusive market intelligence, trade ideas, and member-only events tailored for investment professionals and active investors with Perscient Pro.
VISIT PRO
Comments
How about no tax deduction for interest on an amount of the company’s debt equal to the aggregate of the previous 5 or 10 years stock buybacks. And yes, I’m looking at you IBM.
Again, tax managent stock options as immediate income at current value of options when granted and again when exorcised. Get rid of capital gains treatment for stock options.
How about no stock buybacks?
Managment can have options, preferably with long dated vesting. Does align with shareholders, interest in a well performing stock. But no possibility of gaming the system ( that way) by giving company money to people who do not want to be shareholders.
Personally, I want every member of the board of directors to own some of the stock. Not sure how to accomplish this w/out equity compensation. I also think that in the case of company founders, there may need to be an exception to the CEO/Chairman rule. Without an exception would there be too much of a disincentive for going public in the first place?
What if buybacks were not allowed unless the company paid out a certain % as dividends in that calendar year? Say 50%? Also, all shareholder communication about buybacks should include full disclosure, gross amount, mgmt stock based compensation, other tax true up games, net amount.
Ben - suggestions 1 through 3 take care of the board, but what of the ‘managers’? If stock-based compensation is truly compensation for hitting agreed-upon goals, then payment should follow into the next fiscal year.
First, limit by law stock-based compensation to 10% of total cash compensation, and second, issue the stock each pay period. [ Add the current stock value issued into the period earnings, tax it based on the individual’s tax schedule, then remove the value of the stock - like taxing a company car. The company adds the value of the car to cash compensation for that payroll period, they then tax it, then remove the vehicle value. I hated it when I had a company car, but I also understood the taxing principle.]
No more hulking huge stock awards, all at once, and the actual award is spread out over the year after it is earned. The employee can take possession of the shares each pay period, or let them accrue. And the only way this is going to happen is by law, because there will be serious push-back. But someone, somewhere, is going to have to draw a line in the sand to stop these abuses.
I own a lot of stocks and don’t have a clue how much the executives are making. I’m sure I would be displeased if I did. If ROE is ok, most of us figure everything else is ok. Perhaps if the information were a clear line item and stockholders were allowed to express their view with some authority, it would help the situation.
The proxy statement will tell you how managers are compensated. This excerpt from the 2019 Norfolk Southern proxy statement provides a clue.
From the 2019 proxy statement: “Norfolk Southern’s goal is to achieve an operating ratio less than 65 percent by 2020 and double-digit compound annual earnings per share growth over the plan period (page 30)." Nothing in there about revenue or volume growth. Mgt is incented to get the OR down and EPS up.
Jamie isn’t taking people’s money at the point of a gun. Investors are literally giving it to him. Then complaining, “there ought to be a law”.
Ben, If I have a clear understanding of the stock buy-back extravaganza, it has been facilitated by the Federal Reserve’s loose monetary policy which allowed credit worthy (?) borrowers to replace equity with debt. Trying to nullify the actions of one government agency with more government regulation seems contrary to the ethos of the pack. I am not sure how to do this but the very first step is to clip the wings of the Fed. It is time to recognize that there is a business cycle that must run its courses. Safe spaces only exist in the halls of academia where these millionaire professors belong not trying to manage the lives of working class Americans. There is plenty of talent here at Epsilon Theory so a good start is for all of us trying to flee the flock to start thinking outside the box. To quote Buckmeister Fuller, “You never change things by fighting the existing reality. To change something, build a new model that makes the existing model obsolete.” You have helped us all take the first step in pushing back against the Nudgers, we need to come up with solutions that don’t involve making the bureaucracy more powerful.
Great comment.
P.S. I think his name is spelt “Buckminster Fuller”.
Continue the discussion at the Epsilon Theory Forum...