When even the Harvard Business Review throws up all over stock buybacks, you know it is only a matter of days before Obama signs an executive orders banning these for good (as he should have back in April 2012 when we explained [6]why it is all the Fed's fault that instead of investing in growth and expansion, companies are instead cashing out their stockholders and boosting management equity-linked comp to record leves).
From HBR [7]' William Lazonick and Matt Hopkins:
GM’s Stock Buyback Is Bad for America and the Company
[8]
General Motors’ announcement that it will settle a fight with activist shareholders by buying back $5 billion [9] in stock over the coming 21 months is a major loss for American taxpayers and GM’s workers. The investors’ leader, Harry J. Wilson, called the deal a ”win-win outcome.” But the only real wins are a victory for the hedge funds, and a Pyrrhic victory for GM in that it managed to keep Wilson off its board and reduced the size of the buyback from the $8 billion the investors had been demanding.
In 2009, Wilson was part of a Wall Street team that the Obama administration hired to structure the bailout of GM, after the company, once the world’s largest automobile producer, sustained over $88 billion in losses in the previous four years. During the bailout, financial firms, including hedge funds, were nowhere to be found. Instead, U.S. taxpayers put up $49.5 billion [10] in rescue funding, and Canadian taxpayers pitched in another $10.9 billion [11], allowing GM to emerge from bankruptcy after just 40 days. In 2010 the “New GM” did one of the largest initial public offerings in history, with share sales to the public of $23.1 billion [12] by the U.S. and Canadian governments as well as the United Automobile Workers (UAW) through its Voluntary Employee Beneficiary Association (VEBA) Trust. By the time the U.S. government sold off all of its GM holdings in December 2013, U.S. taxpayers had absorbed a $11.2 billion [13] loss.
The UAW made big sacrifices, allowing GM to reduce labor costs by $11 billion [14]. There were 21,000 layoffs; a wage freeze for current workers; a halved wage of $14 per hour for non-core new hires; elimination of a funding program for unemployed workers; a no-strike agreement until 2015; and the VEBA that shifted UAW retiree healthcare and pension benefits from GM to the UAW, saving the company $3 billion [14] per year. (In early February, a day after she met with Wilson [15], Barra decided to grant 48,400 UAW workers as much as $2,400 each [16] in extra profit-sharing bonuses that were over and above the amount stipulated in the union contract. But this “Barra bonus” totals only $116 million, a pittance compared with the $5 billion that GM will spend on the buyback.)
While the restructuring certainly helped GM return to profitability (its annual net income averaged $6.7 billion from 2010 through 2013), it would probably still be bankrupt but for the booming Chinese market. In 2013 GM produced 3 million cars in China [17], or 45% of its global car production; that was up from 1.1 million vehicles in 2008. Indeed, in 2013 GM produced [18] only 12% of its passenger cars and 21% of its motor vehicles in the United States.
Going forward, GM will need all the financial resources it can muster to produce automobiles that buyers in diverse global markets want at prices that they are willing to pay. In an industry characterized by intense global competition and major technological challenges, GM cannot afford to be held hostage by hedge funds in the name of “maximizing shareholder value.”
One of us (Bill Lazonick) has been extremely critical [19] of the kind of buybacks — open-market stock repurchases — that GM has pledged to undertake. Their only purpose is to give manipulative boosts to GM’s stock price. The winners will be public shareholders, including the hedge funds, who stand ready to gain by selling their GM shares. If U.S. corporate history of the past three decades is a guide, the $5 billion in buybacks won’t be the last. The pump-and-dump hedge funds will come back to GM’s buyback well year after year until the cash flow once again runs dry.
GM did $20.4 billion worth of buybacks from 1986 through 2002. [20] If it had saved that money and earned a modest 2.5% on it, the company would have had $35 billion on hand when the financial crisis and Great Recession hit and probably would not have had to file for bankruptcy protection. As Bob Lutz [15], the veteran auto executive, said recently, stock buybacks are “always a harbinger of the next downturn…in almost all cases, you regret it later.”
So why is GM risking déjà vu all over again? Surely GM CEO Mary Barra understands the deadweight loss that stock buybacks pose for her company. She has been with GM since 1980 when, at the age of 18, she entered General Motors Institute to get an engineering degree. She must know that public shareholders, including the hedge funds, whose only relation to the company is to buy and sell outstanding shares, contribute nothing at all to the creation of high quality, low-cost vehicles. One would hope that Barra’s motivation in caving in to the hedge funds has nothing to do with her $10 million in stock awards waiting to vest.
Taxpayers and workers brought GM out of bankruptcy, yet it is the hedge funds that will reap the biggest rewards. Taxpayers and workers should demand that open-market repurchases by all companies be banned. Stock buybacks manipulate the stock market and leave most Americans worse off. In this case, it is clear that what is good for the hedge funds is bad for the United States.
