Workers Won't Profit From Corporate Tax Windfall

(Bloomberg View) -- Even before the Republican tax bill was signed, companies were lining up to take advantage of one of its key provisions: the new, lower rate designed to lure profits earned abroad back to the U.S. With the corporate tax rate dropping from 35 percent to 21 percent, U.S. companies will get an even sweeter deal if they bring home some of the $2.7 trillion in profits they’ve been sheltering abroad to avoid paying U.S. taxes. Their one-time-only tax rate will be 15.5 percent. 

There’s not much doubt that this tax holiday will transfer billions of dollars back to the U.S. But to what end? Republicans in Congress insist that it will encourage companies to make new investments, hire more workers, boost wages, yadda, yadda.

But you know that’s not what will happen. Instead, companies are going to be spending it on stock buybacks and increased dividends. To put it another way, they are going to use the influx of cash to reward capital instead of labor, which is the exact opposite of the Republican claims.

Take Pfizer Inc., for instance. On Monday, the company, which was already committed to buying back $6.4 billion worth of its shares, announced that its board had authorized an additional $10 billion buyback, plus a 6 percent hike in its dividend, according to FiercePharma, an online trade publication. The news was directly linked to the new tax bill.

Or how about Oracle Corp? Since 2008, it has been spending between $4.2 billion and $5.2 billion on stock buybacks. With $52 billion stashed abroad, it announced last week that it would raise that by an additional $12 billion. Home Depot Inc.: $15 billion buyback announced on Dec. 6. Bank of America Corp.: $5 billion, Dec. 5. Mastercard Inc.: $4 billion, Dec. 5. A list compiled by Senate Democrats shows that in the space of 10 days in December, 29 companies announced close to $70 billion in buybacks. And that’s just the beginning. Wait ’til you see the mad rush after the bill becomes law.

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A handful of companies, including AT&T Inc. and Boeing Co., are promising employees one-time bonuses and other benefits to celebrate the tax bill. But the real action will consist of dividend increases and buybacks.

I have no quarrel with boosting dividends. That's a straightforward, time-honored way to direct a share of a company’s profit to shareholders. Dividends reward shareholders without relying on stock appreciation.

But stock buybacks are a different story. They’re a form of financial engineering intended to artificially boost a company’s share price. For decades they were illegal, viewed by the U.S. Securities and Exchange Commission as a form of stock manipulation. It was only in 1982, after the SEC loosened its definition of stock manipulation, that corporate raiders — “shareholder activists,” we now call them — began pushing companies to start buying back stock.

The idea is that when a company buys up its own shares, it miraculously boosts its earnings per share — even when the earnings themselves aren’t rising! It’s simple arithmetic: Earnings spread over fewer shares means higher earnings per share. Higher earnings per share usually means a higher stock price. And a higher share price means that the company’s management is “maximizing shareholder value.”

I’ve heard it said that when a company buys its own shares, it is showing shareholders that it believes that investing in its own stock is the best use of its capital. I realize that some companies simply don’t see any other decent investment opportunities. And yes, I know that Warren Buffett is a defender of stock buybacks.

But mainly, stock buybacks are a way to convince the market that something good is happening — higher earnings per share! — when it’s really just an accounting trick. And the market has happily bought it.

It’s easy enough to understand why chief executives love stock buybacks: When the stock goes up, so does their compensation. Hedge funds and other big investors love them, too, for much the same reason. When Carl Icahn was pushing Apple Inc. some years ago to share some of its multi-billion cash hoard with shareholders, he argued that the company needed to institute a share buyback program. Eventually Apple agreed. Today, nobody buys back stock like Apple, which has spent $158 billion through August and even dips into the bond market to finance stock purchases.

To my way of thinking, stock buybacks are mainly a perversion of the way companies are supposed to work. William Lazonick, an economist at the University of Massachusetts-Lowell and perhaps the leading academic critic of stock buybacks, told Forbes not long ago that stock buybacks aren’t about value creation. They are about “value extraction,” the idea that “money in the corporation shouldn’t be there, it should be reallocated by the market.”

In 2014, Lazonick wrote an important article for Harvard Business Review called Profits Without Prosperity, which documented the stock buyback insanity. Between 2003 and 2012, the 449 companies that had been a continuous part of the S&P 500 through that decade bought back an astounding $2.4 trillion worth of their own stock. That amounted to 54 percent of their earnings. With dividends soaking up an additional 37 percent of earnings, there was “very little left for investment in productive capabilities or higher incomes for workers.”

That is what’s really wrong with stock buybacks: They enrich executives at the expense of workers, they widen income inequality, and they hobble the productive capacity of the nation. When executives say they can’t find investment opportunities for their surplus cash, what that really suggests is a lack of imagination.

In his interview with Forbes, Lazonick pointed to the example of Cisco Systems Inc., a company that spent heavily on stock buybacks even as it stopped investing in the sophisticated communications equipment that had made it a leader in its field. Today, he added, Cisco significantly lags behind Huawei, a Chinese company.

And then there’s the matter of the labor force, which gains nothing when companies buy back stock. One way companies could deploy excess cash is to give its workers raises, something that has been largely missing despite the strong economic growth of the last few years. Surely that would be a better use of capital than buying back stock. It might even make the company more productive. Instead, companies and their shareholders are dividing the spoils that labor made possible — without allowing workers to share in the wealth.

In Rick Wartzman’s excellent recent book “The End of Loyalty,” he notes that for many years after World War II, corporate executives believed that giving employees regular raises along with benefits like health insurance was the surest way to prosperity. Now, corporate executives believe that pushing up the stock price through maneuvers like stock buybacks is the only thing that matters. That’s why so little of the repatriated cash is likely to go to either new investments or increased wages.

That’s what happens when your only value is shareholder value.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Joe Nocera is a Bloomberg View columnist. He has written business columns for Esquire, GQ and the New York Times, and is the former editorial director of Fortune. He is the co-author of "Indentured: The Inside Story of the Rebellion Against the NCAA."

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