Share repurchases have become a popular way for companies to return cash to investors_¹ but are they actually creating value for Meta Platforms shareholders or not?

Meta Platforms has been allocating capital to share repurchases with total shares outstanding declining from 2851 shares outstanding in 2020 to 2687 in 2022.

As a rule, always ask yourself, “Where is the source of value creation?”

Creating value or not?

To determine if share repurchases are creating value for Meta Platforms
shareholders or not we need to consider two main things.²

1. Were the shares repurchased using cash or debt?
2. What other options did management have to deploy that cash into?

Use of cash or debt

To understand the mechanics here, let’s first consider an example.

Suppose a company borrows $100 to repurchase 10% of its shares. For every $100 of shares repurchased, the company pays 6% interest in its new debt. After tax savings of 35%, its total earnings would decline by $3.90. However, the number of shares has declined by 10%, so earnings per share (EPS) would increase by about 5%.

A 5% increase in EPS for this simple accounting method seems like a good decision. All else being constant, the company’s market value per share will also increase by 5%.

However in reality this gain doesn’t actually occur because the company’s cash flow has not actually increased and so its valuation does not increase.

While EPS has increased by 5%, the company’s debt has increased as well. With the higher leverage, the company’s equity cash flows will be more volatile, forcing investors to require a higher return. This brings down the company’s P/E and offsets the increase in EPS.

Opportunity Cost

The second part we need to understand is what other options were available to management to deploy the cash into?
a) What is the company’s return on invested capital?
i) Can it not find investments that will match that return?

b) Does Meta Platforms not have good R&D opportunities to invest in and increase future cash flows?
i) What is the company’s current growth in sales? If the current sales growth rate is low and the company is pursuing share buybacks it may be a desperate attempt to increase EPS as it loses market share.

c) What is management’s motivation? If stock based compensation bonuses are linked to EPS growth and not other measures of performance such as sales growth rate and EBIT, management may attempt to boost EPS by any means possible.

If management has no good options to deploy cash into, then returning cash to shareholders via share repurchases could be the most appropriate course of action
to conserve value.

If you’re thinking about buying stock in Meta Platforms, you need to know if stock buybacks are creating value or not by analyzing its financials. Check Meta’s balance sheet and cash flow statement here and most recent earnings call here.

References

1. M.J. Mauboussin, “Clear Thinking about Share Repurchases,”Legg Mason Capital Management, Mauboussin on Strategy, 2006.

2. Koller, T., Goedhart, M., Wesslels, D. (2015) “Corporate Valuation; Measuring and Managing the Value of Companies.” McKinsey & Company.