Bill Ackman Asks Warren Buffett About Stock Buybacks

Bill Ackman Asks Warren Buffett If Stock Buybacks Should Be Limited?

Bill Ackman asked Warren Buffett if there’s a limit to stock buybacks at the 1998 Berkshire Hathaway Annual Meeting.

There are a number of ways shareholders can get a return on their stock investments: dividends, capital gains, share repurchases and more. In the case of repurchases AKA buybacks, your ownership slice gets bigger the more that a company repurchases and retires outstanding shares.

Among all the ways that management can allocate capital, share buybacks can be either good or bad, which begs Ackman’s question: “Is there a price at which it’s inappropriate for a company to use its capital to buy back its stock? Example: Coca-Cola at 40 PE. Is that a smart place for Coke to deploy capital?”

Though a 40 Price To Earnings (PE) makes a stock seem pricey compared to the stock market average of 16 PE historically, Buffett replied, “well, it sounds like a very high price when you name it in terms of a PE to buy back the stock at that sort of number. But I would say this: Coca-Cola’s been around a 112 years now, and there are very few times in that 112 years, if any, when it would not have been smart for Coca-Cola to be repurchasing its shares.”

Buffett contended that in spite of what appeared to be an expensive stock, “all I can tell you is, I approve of Coke repurchasing shares. I’d a lot rather have them repurchasing shares at 15 times earnings, but when I look at other ways to use capital, I still think it’s a very good use of capital. And maybe the day will come when they can buy it at 20 times earnings, and if they can I hope they go out and borrow a lot of money to ton of it at those prices, and I think we will be better off 20 years from now if Coke follows a consistent repurchase approach.”

While Buffett is OK with Coke buying back its shares because it’s a wonderful business, he does “not think that is true for many companies” because he thinks “repurchases have become en vogue and done for a lot of silly reasons. And so I don’t think everybody’s repurchase of shares is well reasoned at all.”

The reason Buffett said that is because many companies have issued stock options to employees that lowered the value of the stock, and also bought back their stock at higher prices. So they “sold low and bought high,” which is not wise.

But when it comes to owning “stock in a wonderful business, we like the idea of repurchases, even at prices that may give you nose bleeds. It generally turns out to be a pretty good policy.”

Charlie Munger added that some companies have treated buybacks like a “giant Ponzi scheme” in pumping up the stock price.

I discussed the increased amount of buybacks that many companies, including Apple, Berkshire, and Google (Alphabet), have done in recent years. The S&P 500 companies set a record amount of $882 billion stock buybacks in 2021. And it’s projected that there would be about $1 trillion of buybacks in 2022. But this buyback trend could be slowing down when a 1% excise tax on buybacks comes into effect in 2023.

In Berkshire Hathaway’s 2021 letter that came out in February 2022, Buffett gloated about Apple’s buybacks even as AAPL stock reached peak prices in late 2021: “Apple – our runner-up Giant as measured by its yearend market value – is a different sort of holding. Here, our ownership is a mere 5.55%, up from 5.39% a year earlier. That increase sounds like small potatoes. But consider that each 0.1% of Apple’s 2021 earnings amounted to $100 million. We spent no Berkshire funds to gain our accretion. Apple’s repurchases did the job. It’s important to understand that only dividends from Apple are counted in the GAAP earnings Berkshire reports – and last year, Apple paid us $785 million of those. Yet our “share” of Apple’s earnings amounted to a staggering $5.6 billion. Much of what the company retained was used to repurchase Apple shares, an act we applaud. Tim Cook, Apple’s brilliant CEO, quite properly regards users of Apple products as his first love, but all of his other constituencies benefit from Tim’s managerial touch as well.”

So the moral of the buyback story is: if it’s a wonderful business doing buybacks even at nose bleed prices, it might still be a generally good thing. However, after 2021’s $27 billion of buybacks, Berkshire is toning down its buybacks this year maybe in favor of buying other businesses that are on sale.

If you’re interested in learning how to take control of your finances and start becoming an investor like Warren Buffett, check out my free PDF guide.

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