A buyback, also known as a stock repurchase, is the financial process in which a company buys back its outstanding shares from existing shareholders, resulting in fewer available shares of the company.
A company buys back its own shares for a number of reasons, typically when the company deems its stock prices too low, not reflecting its intrinsic enterprise value, and believes that a buyback is the better allocation of capital for the interest of its shareholders.
Although a financial move applauded by the stock market and investors, the buyback somehow becomes the target of politicians with their own agendas in the United States. In accordance with the Inflation Reduction Act effective Jan. 1, a new 1% exercise tax will be imposed on the value of any share repurchase.
The argument behind this piece of legislation is to encourage firms to invest their surplus cash in the business, rather than returning it to shareholders. Sounds good, right? It actually makes absolutely no logical business sense.
On most occasions, a company initiates a buyback because the stock repurchase represents the best investment opportunity available, and because there are no other more attractive returns for the use of its capital. Since when have lawmakers on Capitol Hill become better managers of corporate America?
Buybacks increase the value and earnings per share and boost the stock prices of companies. Most Americans own stocks directly or indirectly through their 401(k) accounts, mutual funds or other forms of portfolios. A better performing stock market increases the wealth of American households.
In his recent annual letter to investors published last month, Warrant Buffet made it clear that he had had enough of those buyback critics: “When you are told that all repurchases are harmful to shareholders or to the country, or particularly beneficial to CEOs, you are listening to either an economic illiterate or a silver-tongued demagogue (characters that are not mutually exclusive).”
So why did legislators push for the tax imposition in this act? Because it is a cheap and cheesy sell to score with American voters in upcoming elections. By pretending to fight the rich and big money, lawmakers want to show that they side with ordinary Americans, or do they?
In their pursuit of votes, more and more politicians in the U.S. have deviated from their fiduciary duty to protect the interests of their constituents. They always prioritize ideas that are popular with voters, not the ideas that are right for their voters.
Political parties have attached connotations to many concepts and politicize such concepts in their favor. Republicans have made gun ownership equal to freedom, and no Republican politician wants to take a harsh stance on gun violence, even as the number of mass shootings in the U.S. has surpassed 100 by the first week of March in 2023, according to data from the Gun Violence Archive.
On the other side, any thought that claims to be targeting the rich and big corps is quickly endorsed by Democrats, such as the new buyback taxation. Republicans do not want to stand in the way of this groundless legislation; otherwise they might look bad to their voters. After all, who wants to appear against ordinary Americans?
The same legislative rationale led both parties to pump unreasonably large amount of liquidity into American households and businesses after the COVID, making high inflation a nightmare still hanging over the U.S. economy today.
(The author is an independent financial investor.)