President Biden wants higher taxes on U.S. corporate stock buybacks | Private Equity Weekly
Corporate America is flush with cash and has repurchased a near-record amount of stock this year. President Biden wants to increase taxes on these buybacks. According to reports, Biden will propose in his State of the Union address tonight to increase the tax paid by companies when they repurchase stock from 1% to 4%. The theory goes that imposing an additional tax on buybacks will encourage companies to invest in hiring more people or making capital expenditures (more factories, buildings or technology) rather than buying back their own stock. While the validity of this theory is questionable, there’s no doubt that companies appear to be on a buyback spree. Many observers expect 2024 could be a near-record year for buybacks. Why buybacks are accelerating A record $950 billion of stock was repurchased in 2022, a record high, but 2023 disappointed, largely due to lackluster earnings growth. But 2024 and 2025 look close to history. Buybacks: Step up the effort? (Repurchases Executed) 2024 (Estimated) $925b. $815 in 2023. $950 in 2022 $919 in 2021 $538 in 2020 $749 in 2019 Source: Jeffrey Yale Rubin of Goldman Sachs Birinyi Associates estimates that companies announced buybacks of $1,870 in February alone billion, second only to the record of $225 billion announced in February 2022. “Solid earnings growth will be the main driver of buybacks, while valuations will also rise. Policy uncertainty will be a headwind,” Goldman said in a recent report. Goldman Sachs recently raised its 2024 buyback forecast to 9,250 billion (annual growth of 13%), and the repurchase forecast in 2025 is raised to $1.075 trillion (annual growth of 16%). Goldman Sachs pointed out that a large part of the repurchase is driven by the record profits of large technology stocks: “We expect 2024 Buyback growth in 2020 will be mainly driven by large-cap technology stocks,” the bank said. In fact, Goldman Sachs noted that the Magnificent 7 Index itself will account for 26% of S&P 500 buybacks in 2023. Businesses prefer stock buybacks. Corporate America has a lot of freedom with the cash flow it generates. Excess cash typically falls into three categories: buybacks, dividends and capital expenditures. While the ratio per barrel is constantly changing, the company has recently shown a greater propensity to buy back. 2023: How U.S. businesses use cash flow to buy back $765b. Capital expenditures $597 b. Dividend $588b. Source: S&P Global Why: Buybacks can boost stock prices because they reduce shares outstanding, theoretically boosting earnings per share. Of course, dividends are another source of financial compensation for shareholders. Big tech companies may be moving in this direction. In announcing its recent buyback, Instagram parent company Meta Platforms also announced its first-ever dividend. Three of the Big Seven (Alphabet, Amazon, and Tesla) do not pay any dividends, and given their stable earnings and high profit margins, Goldman Sachs notes that these companies are likely to pay dividends in the future. Shifting cash to capex and hiring an open question If the buyback tax rises, companies may shift idle cash to increase capex and increase hiring, but at least for the big tech stocks, that decision is more likely. A state of growth driven by technology, not a state of tax avoidance. In 2023, the Big Seven spent $407 billion on capital expenditures and R&D, accounting for 23% of their annual revenue and 27% of all S&P 500 capital expenditures and R&D expenditures. “If management teams see attractive investment opportunities outside of spending growth, they may limit the growth of the buyback program in order to fund investments,” Goldman Sachs said. Elsewhere, big investors investing in one area Part of the decision comes down to economic growth: Higher growth means companies will be more willing to invest in hiring more people and making capital expenditures. Goldman Sachs pointed out that its economic team expects economic growth to slow down in the second half of 2024, indicating that investors will continue to favor companies that return cash to shareholders. “However, if economic growth continues to gain momentum, investors may begin to increasingly reward companies that invest for growth,” Goldman Sachs said. Will higher taxes discourage corporate buybacks? In early February, Meta authorized an expansion of a $50 billion stock repurchase program, equivalent to about 5% of shares outstanding at the time. The company would pay $500 million under current taxes, a figure that would rise to $2 billion under Biden’s proposed taxes. That’s a huge amount of money, but it’s unclear whether it will cause Meta to shift funds from buybacks to capital investments. “I haven’t seen any evidence that taxing buybacks will cause companies to redirect cash to capital expenditures,” Howard Silverblatt, senior index analyst at S&P Global, told me. Silverblatt agrees with Goldman analysis, pointing out that if the economy continues to grow, companies will rationally decide to invest more in hiring and capital expenditures: “That’s what they should do, go where the growth is,” he told me.
