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TheStreet Open House

Big Stock Buybacks May Lead to Hefty Gains

NEW YORK (TheStreet) - Corporate America is returning cash to shareholders instead of hoarding it, helping to generate decent returns in a slow-growing economy.

Chief executives spent more than $370 billion on buybacks in 2011, the most since pre-recession levels. Momentum continues in 2012 with seven of the new repurchase plans weighing in at more than $1.5 billion. AT&T (T) announced the largest plan at $9 billion, followed by Comcast (CMCSA) at $6.5 billion and DirecTV (DTV) at $6 billion.

The moves suggest that executives are more confident about their companies' prospects, given their improved balance sheets, the stabilizing economy and low interest rates.

Cash per share for the S&P 500 was almost $300 in 2011, a high for the index. On top of that, free cash flow for the group has also increased and is yielding 8%, the highest since 2008 when the S&P was yielding 10% as stock prices were tumbling.

Given these levels of cash, it's easy to see why corporations are buying back shares. Chris Leavy, chief investment officer of fundamental equities in the Americas at BlackRock (BLK), says "companies are using free cash flow to fund the share repurchase programs, not cash on the balance sheet." That means companies haven't depleted their cash balances and can still use them to buy capital equipment or make acquisitions.





Buybacks are typically viewed positively by investors because they help drive stock prices up, at least in the near-term. They also reduce the company's share count which in-turn drives earnings growth. This is where Leavy thinks investors can benefit. On average, he estimates that share repurchase programs will reduce share count in the S&P 500 by 3%, and consequently increase EPS by 3%.

Leavy explains "even if valuations don't improve, you can still make 9% to 10% return on equity investments simply based on revenue growth of about 5%, flat margins, buyback related EPS growth of 3% and a dividend yield of 2%."

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