Why I Don't Like Stock Buybacks

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Fred Wilson submits:

RIM ( RIMM ), the company that makes Blackberries, announced a weak quarter Thursday , and then announced they were initiating a stock buyback. I don't like stock buybacks and I figured this was an opportunity to explain why.

A decade ago, I was Chairman of the Board of a public company called TheStreet.com . It is still a public company but I have not been involved with the company for eight or nine years.

The company raised a huge amount of money in its IPO in 1999 and then after the market broke in early 2000, the stock was trading below its cash value. We talked about this at the board and decided to do a stock buyback.


For those who don't know what a stock buyback is, it is when a public company announces that they will be going into the market and start purchasing their own stock. When they purchase their stock, they typically retire it so that the number of shares outstanding goes down.

Stock buybacks are very popular with some investors as a way for a company to transfer value from the company back to the shareholders. It is like a dividend, except it is taxed as a capital gain, not ordinary income.

I don't remember the exact details of the buyback at TheStreet.com but we started buying the stock and it kept going down. We kept buying it. But we were losing money on each buyback because we were overpaying for our own stock as it kept going down.

I didn't understand what was going on. We had more cash than it would take to buy back every share in the company and yet the stock kept going down. We eventually reduced the number of shares outstanding by a pretty significant number. I don't remember what it was but it could have been as high as 25% of all the shares that were outstanding before we started the buyback.

Eventually the market came back and the stock rose. And the company started making money and its reported earnings per share were higher as a result.

But I don't view that stock buyback as successful. It didn't fundamentally change the company in any way. We just gave back a lot of cash to the investors.

This was all happening in 2000 and 2001. If I think about what we could have done with $25mm or more of cash in 2000 and 2001 to transform that company, there are so many obvious ideas in hindsight. We could have invested in new lines of business. We could have bought a bunch of companies. We could have made a number of moves that would have fundamentally changed the company. And we had a lot more cash than $25mm. But we let the cash sit in the bank and worse we gave a lot of it back to investors in a manner that did not do much for the company.

So if you go back to the reason that the stock kept going down as we were buying it back, I think I understand why now. With our stock buyback we were signaling to the market that we had no good ideas about how to spend that cash. We were signaling that we didn't see much of a future in our business. And smart investors bet against those kinds of companies, managements, and boards.

So when I saw the headline Friday morning that RIM was doing a buyback, I was saddened. I've been a Blackberry user since 1997 or 1998. RIM has been a great company that has driven so much innovation in the past fifteen years that has made my life better and the lives of many others better. I have to believe that if they got aggressive, they could find uses for all of that cash they are sitting on. I wish they would do that instead of buying back their stock.

See also Great Day for Goldman on seekingalpha.com



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , US Markets

Referenced Stocks: DIA , QQQ , RIMM , SPY

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