Buybacks: The Rationale and the Evidence

None other than Warren Buffett described Henry Singleton as a “managerial superstar,” saying that he had “the best operating and capital deployment record in American business.” High praise indeed coming from the world’s greatest capital allocator. Singleton founded Teledyne in 1960, and adapted his capital management strategy to the prevailing climate on Wall Street. In the conglomerate era, he used Teledyne’s soaring stock to make cheap acquisitions and raise earnings per share. In the 1970s, when the stock slumped, Singleton bought back Teledyne’s undervalued stock. Singleton said the following in a 1979 Forbes article, “The Singular Henry Singleton”:

In October 1972 we tendered for 1 million shares and 8.9 million came in. We took them all at $20 and figured that was a fluke and that we couldn’t do it again. But instead of going up, our stock went down. So we kept tendering, first at $14 and then doing two bonds-for-stock swaps. Every time one tender was over the stock would go down and we’d tender again and we’d get a new deluge. Then two more tenders at $18 and $40.
…
I don’t believe all the nonsense about market timing. Just buy very good value and when the market is ready that value will be recognized.

What was the secret to Singleton’s masterful handling of Teledyne’s capital structure? He kept a weather eye on the stock’s discount or premium to its intrinsic value. When he judged the stock undervalued, he bought it back hand over fist, concentrating the intrinsic value in the remaining shares. When he thought it looked expensive, he raised low-cost capital through judicious stock sales, which is the practical effect of a scrip-for-scrip acquisition of another company. Over time, that combination of opportunistic, cheap capital and well-timed buybacks boosted Teledyne’s already spectacular operating performance into the stratosphere on a per share basis.

Investors in Teledyne during Singleton’s tenure made out like bandits. Teledyne stock, which had sold for less than $14 in 1972, the year of Singleton’s first buyback, was by 1987, when adjusted for splits and distributions, worth well over $930 a share, representing a cumulative return of more than 6,500 percent, or a compound yearly return of more than 32 percent. Buybacks are a very powerful means for generating returns on the stock market.

The measure to identify companies buying back stock is known as buyback yield. We calculate buyback yield by examining the dollar value of shares repurchased in comparison with the market capitalization. The higher the buyback yield, the more stock has been bought back. Crucially, we examine buybacks net of any shares issued. Where shares are issued, say, to employees exercising options, some managers undertake buybacks to keep outstanding stock from ballooning up. Real capital is spent acquiring the shares, but, when the smoke clears, the share count is not reduced because the number of shares repurchased equals the number of shares issued from exercising options. Thus we are interested in the net buyback yield.

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